However, none of these proposals for crisis prevention is capable of eliminating the need for active national policies in respect of the balance of payments and external liabilities. The alternative of freely floating rates, combined with capital mobility, would undermine currency stability, with attendant consequences for trade, investment and growth. A currency board system, the TDR says, can eliminate problems of debt management due to currency mismatches, and has proved a useful vehicle in certain countries for halting hyperinflation. But such systems do not insulate economies from instability of external origin, since the effects of capital inflows and outflows are transmitted to levels of economic activity and to goods and assets prices, and may include threats to banking stability. Even if used flexibly, such regimes are likely to be sustainable only if accompanied by active management of external liabilities, which may often entail recourse to capital controls.
Capital controls are a tried technique for dealing with unstable capital movements.
However, owing to deregulation and recent developments in banking technique, accounts and transactions denominated in foreign currencies are now often available to residents. Since they can affect macroeconomic variables such as the exchange rate in much the same way as cross-border transactions, they are also a legitimate target for controls. Post-war experience has been marked by frequent use of such controls in industrial countries, and they have also played an important role in policies adopted by several developing countries during recent years in response to large capital inflows. The extent of successful recourse to capital controls suggests that current initiatives aiming to restrict national freedom of action in this area are inappropriate. The probability of financial crises can be reduced by better macroeconomic fundamentals, effective prudential regulation and supervision of the financial system, and improved corporate governance.