My, haven’t times changed? From this week’s Economist:
Mainstream economists have had to rethink a lot as a result of the financial crisis. The cross-border flow of capital is one such area. Gyrations in money movements over the past five years (see left-hand chart) have reinforced fears that sloshing tides of capital can destabilise economies. No less an authority than the International Monetary Fund (IMF), once an ardent foe of capital controls, is now exploring when and how limits on cross-border investment might be justified.
It looks at potential problems that might stem from the free flow of capital around the world, including the growth of financial bubbles and “Dutch Disease” type effect causing currencies to appreciate, making tradeable sectors uncompetitive.
In Treasure Islands I explained how the co-operative multilateral Bretton Woods system that operated during the approximate quarter century after the Second World War provided for fierce controls on capital flows across borders (as well as high taxes, and strong domestic curbs on financial sector exuberance in the UK, US and elsewhere.) That period is now known as the Golden Age of Capitalism, when growth was not only high, around the world, but broad-based: poverty fell dramatically, the middle classes saw prosperity like never before, financial crises were rare, and inequality fell.
The collapse of the Bretton Woods system and the return to the free cross-border flow of capital, accelerated and encouraged by offshore centres, was accompanied by falling growth, soaring inequality and multiple financial crises. One might think that people would have concluded that capital controls were potentially a good idea, but no: the IMF and mainstream economists all turned to their pretty models and declared that the free flow of capital was a good idea.
So now it’s heartening to see The Economist, one of the standard-bearers of “economic freedom” (a term which requires unpacking, which I do in Treasure Islands but for which there’s no space here), saying things like this:
A more co-ordinated approach might mitigate the risks of the nastier spillover effects. When there are surges of capital towards multiple destinations, for example, lots of countries may intervene simultaneously to mute inflows. That intensifies the risk of an escalating capital-control war as each country tries to ward off flows that have been deflected by others. In these circumstances, the authors suggest, there is a case for a multilateral framework to ensure that countries act with the effect on others in mind.
The authors also suggest that co-ordination should extend to the countries that are exporting capital as well the countries receiving it.
The Economist here is largely using someone else to say capital controls are a good thing, but the tone of the article is very clear: these previously heretical tools might not be such a bad idea.