In other recent contributions, Farhi and Werning (2014) study optimal capital control policies in response to shocks to productivity, terms of trade, foreign interest rates, risk premia, and fluctuations in export demand, in a standard open economy model. The paper concludes that CFMs can be useful tools to mitigate the effects of shocks under both fixed and flexible exchange rate regimes. The case for CFMs under flexible exchange rates contrasts with the traditional Mundellian, but the authors argue that also under flexible exchange rates CFMs can allow to better navigate the dual objective of macroeconomic stabilization and terms of trade management. They help mitigate the depreciation of the exchange rate and of the terms of trade, the drop in consumption, the outflow of capital and the associated trade surplus.

Korinek and Sandri (2016) compare the effectiveness of capital controls and macroprudential measures in reducing financial fragility in a small open economy model in which agents do not internalize the economywide costs associated with financial crises and exchange rate depreciations, and may borrow excessively. They observe that capital controls apply exclusively to financial transactions between residents and non-residents and induce more precautionary behavior for the economy as a whole, including for savers; whereas macroprudential regulations apply to borrowers and reduce the indebtedness of leveraged borrowers. They establish that while both capital controls and macroprudential measures can restrain borrowing to socially optimal levels, macroprudential regulation can help mitigate booms and busts in asset prices both in advanced and emerging countries; while capital controls can be more effective in emerging economies, and can play only a limited role in advanced countries.

The IMF’s “institutional view” (2012) highlights that since large inflows and outflows of capital can be disruptive, it would be welfare enhancing to modulate the pace of flows. It suggests that there might be a rationale for complementing the range of conventional measures such as monetary and fiscal policies, exchange rate adjustment, changes in reserves, and financial supervision and regulation, with capital flow measures. The view distinguishes between the structural liberalization of capital account transactions and the countercyclical use of capital flow measures. It envisages a temporary and active use of CFMs, requiring frequent changes based on the pace of capital inflows and outflows. It advises that the measures should be implemented in a transparent way, not discriminate between resident and nonresident flows, and should be used as a short-term measure that could be scaled back readily when capital flow pressures abate.

A relatively larger part of the empirical literature has focused on the effectiveness of capital controls, and finds the results to be non-definitive.<sup>7</sup> Examples include Forbes et al. (2016), who conduct an empirical study of Brazil, one of the largest emerging markets that has imposed capital controls in recent years. Using the data at the fund-country level, they show that these had a pernicious spillover impact on other countries—e.g. the increase in tax by Brazil was associated with some slowdown in allocation to Brazil, but an increase in allocation to other countries with a similar beta, and a decline in allocation to countries with a similar risk of imposing capital controls. Their

> 7 A survey piece is Magud and Reinhart (2007).

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