IMF hints at U-turn on capital controls

15 September 1998

There are signs that the IMF may be reconsidering its stance that all capital flows are harmful. Hubert Neiss, IMF Asia-Pacific Director, recently said that capital controls may be needed “to prevent excesses and abuses [and] protect countries from the over-volatility of short-term flows”. Measures thought to be under IMF consideration include taxes on foreign deposits and prudential regulations limiting the ability of banks to run up short-term debts to foreigners.

Other mainstream economic analysts showed a retreat from free-market orthodoxy when they did not condemn Malaysian government’s decision to reintroduce capital controls. The controls will allow monetary policy to be delinked from exchange rate movements, enabling domestic interest rate cuts to help domestic businesses and banks.

Longer-term policy options are being discussed. “One of the clearest lessons of the Asian Crisis” noted The Economist “is that banks must be prevented from building up risky short-term liabilities denominated in foreign currency.” And the Financial Times commented:

“a major rethink of attitudes towards capital flows is therefore urgently needed…unfettered movement of capital can have devastating effects. In the face of such difficulties, China might be considered as an example of the advantages of controls.”

Another critique of the push for speedy liberalisation came from World Bank Chief Economist Joe Stiglitz who wrote in Asiaweek that:

“there is little evidence that full capital account liberalisation contributes to investment or growth. What is clear is that short-term capital flows increase volatility, which is bad for growth … policies need to be designed which will both inhibit the flow of volatile short-term capital and, at the same time, encourage long-term capital, especially foreign direct investment.”