Saturday, March 13, 2010

End of an era in finance…

Dani Rodrik argues that the IMF’s new found philosophy that 4 percent inflation rate and capital controls are not bad policy tools marks an end of an era in finance.

In the world of economics and finance, revolutions occur rarely and are often detected only in hindsight. But what happened on February 19 can safely be called the end of an era in global finance.

On that day, the International Monetary Fund published a policy note that reversed its long-held position on capital controls. Taxes and other restrictions on capital inflows, the IMF’s economists wrote, can be helpful, and they constitute a “legitimate part” of policymakers’ toolkit.

The IMF’s policy note makes clear that controls on cross-border financial flows can be not only desirable, but also effective. This is important, because the traditional argument of last resort against capital controls has been that they could not be made to stick. Financial markets would always outsmart the policymakers.

The IMF’s change of heart is important, but it needs to be followed by further action. We currently don’t know much about designing capital-control regimes. The taboo that has attached to capital controls has discouraged practical, policy-oriented work that would help governments to manage capital flows directly. There is some empirical research on the consequences of capital controls in countries such as Chile, Colombia, and Malaysia, but very little systematic research on the appropriate menu of options. The IMF can help to fill the gap.

Now, it is time for international transaction tax (Robin Hood tax):

With this battle won, the next worthy goal is a global financial transaction tax. Set at a very low level – 0.05% is a commonly mentioned rate – such a tax would raise hundreds of billions of dollars for global public goods while discouraging short-term speculative activities in financial markets.