Martawardaya, Berly and Salotti, Simone (2006): Is It Time to Get Radical? A Game Theoritic analysis of Asian Crisis and Capital Control.
Download (269kB) | Preview
Policymakers in modern and open economies face a macroeconomic trilemma (Obstfeld, Shambaugh, and Taylor 2005). There are three main sought-after objectives: 1. to stabilize the exchange rate; 2. to enjoy free international capital mobility 3. to engage in a monetary policy oriented toward domestic goals.
Three main questions that we try to answer are : How the crisis exacerbated by international investor racing to pull out their capital from affected coutnries? Can capital control reduce it? Can capital control reduce contagion effect and regional financial instability?
Using game theoritical framework and insight from behavioral economics, we analyzed herd behaviour of international investors in the time of financial crisis. Under free international capital mobility, uncertainty and lack of coordination among investors with short-horizon, we found prisoner dilemma type of arrangement that exacerbated financial crisis.
Applying the anylisis to multi-stage game with government, we found that a credible threat of capital control could reduce herd behaviour and escape the worst of financial crisis. Therefore, fredom to employ capital control is a policy tool that enable escape from the trilemma and pursue all three goals at the same time.
We modify the framework to include multiple countries under financial crisis and fear of contagion. We found the ability to impose capital control, under certain conditions, will isolate the crisis and reduce contagion effect. We also explore the critical value when capital control should be enacted with regard to domestic economic condition, on which government political mandate base upon, and differences of reactions in relation to political regime.
We conclude by citing incidences of insistance toward comitment against capital control by IMF in loans approcal and US in free trade agreement as misdirected, unncessesary and even harmful in some cases.
|Item Type:||MPRA Paper|
|Institution:||University of Siena|
|Original Title:||Is It Time to Get Radical? A Game Theoritic analysis of Asian Crisis and Capital Control|
|Keywords:||Asiena crisis; game theory; capital control|
|Subjects:||F - International Economics > F3 - International Finance > F32 - Current Account Adjustment ; Short-Term Capital Movements
C - Mathematical and Quantitative Methods > C7 - Game Theory and Bargaining Theory > C72 - Noncooperative Games
|Depositing User:||Berly Martawardaya|
|Date Deposited:||28. Mar 2007|
|Last Modified:||12. Mar 2015 21:40|
______, The East Asian Miracle: Economic Growth and Public Policy, World Bank, 1993.
Baig, Timur and Ilan Goldfajn, ”Financial Market Contagioni in the Asian Crisis,” IMF Staff Papers Vol 46 no 2 (June 1999).
Banerjee, Abhijit V., “ A Simple model of Herd Behaviour,” The Quarterly Journal of Economics, Vol. 107, No 3. (August 1992), 797-817.
Cole, Harold L. and Timothy J Kehoe, “ A Self-fulfilling Model of Mexico’s 1994-95 Debt Crisis,” Journal of International Economics, Vol 41. No 3-4 (November 1996), 309-330
Edwards, Sebastian, “Capital Controls, Sudden Stops and Current Account Reversals”, NBER Working Paper No. 11170, March 2005.
Eichengreen, Barry, “Toward a New International Financial Architecture”, Institute for International Economics, 1999.
Fuman, Jason and Joseph E. Stiglitz, ”Economic Crises: Evidence and Insights from East Asia,” Brookings Panel of Economic Activity. 1998.
Goh, Soo Kohn, “New Empirical Evidence on the Effects of Capital Controls on Composition of Capital Flows in Malaysia”, Applied Economics, 2005, 37, pp. 1491-1503.
Ito, Takatoshi, “Growth, Crisis and the Future of Economic Recovery in East Asia”, in Rethinking the East Asian Miracle, edited by Stiglitz, Joseph and Yusuf, Shahid, Oxford University Press, 2001.
Krugman, Paul, “Saving Asia: Its time to get radical”, Fortune Magazine. 1998.
_______, The Return of Depression Economics, New York: W.W. Norton & Company, 1999..
Kryzanowski. Lawrence, “The Efficacy of Trading Suspensions: A Regulatory Action Designed to Prevent the Exploitation of Monopoly Information”, The Journal of Finance, vol. XXXIV, no. 5, December 1979.
Maccario, Aurelio, Savona, Paolo, Stroppa, Davide and Zazzara, Cristiano, “Global Imbalances: Issue and Key Questions. The European Perspective”, Working paper for the conference “In search of a new Bretton Woods…”, Florence, October 2006.
Magud, Nicolas and Reinhart, Carmen M., “Capital Controls: an Evaluation”, NBER Working Paper 11973, June 2005.
Masson, “Multiple Equilibria, Contagion and the Emerging Market Crises,” IMF Working Paper WP/99/164. 1999.
Obstfeld, Maurice, “Models of Currency Crises with Self-fulfilling Features,” European Economic Review Vol 40, 1037-1047
_______, Jay C. Shambaugh and Alan M. Taylor,” The Trilemma in History: Tradeoffs among Exchange Rates, Monetary Policies and Capital Mobility,” NBER Working Paper 10396. 2004.
Radelet, Steven and Jeffrey Sachs, ”The Onset of the East Asian Financial Crisis,” NBER Working Paper no W6680, August 1998.
Rogoff, Kenneth, ”International Institutions for Reducing Global Financial Instability,” The Journal of Economic Perspectives, Vol 13, No 4 (Autumn 1999), 21-42.
Sachs, Jeffrey D., Aaron Tornell and Andres Velasco, “Financial Crisis in Emerging Markets: The Lessons from 1995,” BPEA Vol 1. 1996, 147-198.
Sen, Amartya, Development as Freedom, New York: Alfred Knopf Inc. 1999.
_______, “Economic development and capability expansion in historical perspective, “Pacific Economic Review. Vol 6 No 2 (June 2001). pp 179-191 - June 2001
Summers, Larry, "International Financial Crises: Causes, Prevention and Cures" American Economic Review, May 2000, 1-17,
Stiglitz, Joseph, Globalization and Its Discontents, New York: W.W. Norton & Company, 2002.
Yusuf, Shahid, “The East Asian Miracle at the Millennium”, in Rethinking the East Asian Miracle, edited by Stiglitz, Joseph and Yusuf, Shahid, Oxford University Press, 2001.