IMF Executive Board Discusses Review of Experience with the Institutional View on the Liberalization and Management of Capital Flows

December 20, 2016

On December 5, 2016, the Executive Board of the International Monetary Fund (IMF) discussed a staff paper on “ Capital Flows—Review of Experience with the Institutional View.”

Capital flows are an important aspect of the international monetary system. They provide significant benefits, both direct and indirect. At the same time, they also carry risks, and a key challenge for countries is how to harness the benefits while managing the risks. Building on a series of Fund policy papers and Board discussions, as well as analytical work, the IMF’s institutional view on the liberalization and management of capital flows was adopted in 2012 in order to facilitate clear and consistent policy advice to the membership. The institutional view was also envisaged to help foster a more consistent multilateral approach to the design of policies for dealing with capital flows across the various international agreements. The capital flow environment has changed significantly in the period since then, reflecting developments in the global economy. A gradual trend has continued toward greater capital account openness. The challenge for policymakers has shifted from handling capital inflow surges to dealing with capital flow reversals, while continuing to manage volatility. Both push and pull factors remain important for capital flows, suggesting that both source and recipient country policies play a role.

Against this backdrop, the paper reviews countries’ experiences with handling capital flows in the period since the adoption of the institutional view. Specifically, it examines how countries dealt with macroeconomic and financial stability challenges related to capital flows and progressed in liberalizing capital flows, and interprets these policy responses through the lens of the institutional view. It also discusses recent developments in the multilateral system that relate to capital flows and reviews the application of the institutional view in surveillance and other Fund operations with the membership. In light of the experience, the paper highlights some issues that may merit further clarification or elaboration.

Executive Board Assessment

Executive Directors welcomed the review of experience with the institutional view on the liberalization and management of capital flows since its adoption in 2012. They considered that the institutional view remains relevant in the current environment, and that there is no need for substantive adjustment at this point. However, as recognized at the time of its adoption, this institutional view would need to remain flexible and evolve over time to incorporate new experience and insights. Directors broadly agreed with the main findings and the view that a few emerging issues identified in the review could benefit from further clarification.

As highlighted in the institutional view, Directors underscored that capital flows provide significant benefits, but at the same time they also acknowledged that such flows carry risks if they are large and volatile. Accordingly, Directors emphasized the importance of implementing sound macroeconomic and financial sector policies, including exchange rate flexibility, which would enable countries to reap the full benefits of capital flows while mitigating risks. Directors recognized that full liberalization of capital flows may not be an appropriate goal for all countries at all times, although many of them remained of the view that capital account liberalization should be an important long‑term objective and emphasized that the Fund should clearly communicate its support for this objective. Directors also reiterated that capital flow management measures (CFMs) should not be used to substitute for warranted macroeconomic adjustment. They recognized that both push and pull factors remain important for capital flows, highlighting that source and recipient country policies have implications for the size and volatility of capital flows.

Directors noted that the capital flow environment has changed significantly since 2012. The policy challenge for recipient countries, which reflect substantial heterogeneity, has generally shifted from handling capital inflow surges to dealing with capital flow reversals, while continuing to manage volatility. Directors observed that policy responses have generally been along the lines envisioned in the institutional view. Countries have relied primarily on macroeconomic policies to manage capital flow reversals. CFMs on outflows were generally used in crisis or imminent crisis circumstances as part of a broad policy package, except in a few cases where countries faced particular challenges. Countries that had experienced large inflows also responded mainly with macroeconomic policies. Some countries used macroprudential measures to manage financial risks arising from capital flows. A few Directors would have preferred deeper analysis of country experiences with CFMs on inflows and their consistency with the institutional view, including in the context of Fund surveillance.

Directors took positive note of the continued gradual trend toward greater capital account liberalization. They welcomed the finding that, in general, countries’ pace and sequencing of liberalization have taken into account macroeconomic and financial sector policies and conditions, complemented by supporting reforms, broadly in line with the integrated approach in the institutional view.

Directors recognized the role that the institutional view has played in Fund surveillance, providing an analytical framework and basis for consistent policy advice for both source and recipient countries, as well as informing capacity building, particularly in low‑income countries and frontier markets. In so doing, the institutional view does not alter members’ rights and obligations under the Fund’s Articles of Agreement. Directors appreciated the discussion in Fund surveillance, both bilateral and multilateral, of spillovers and alternative policies that achieve similar domestic objectives while minimizing negative spillovers. Many Directors encouraged staff to pay more attention in its surveillance to the role of source countries in internalizing policy spillovers. Directors welcomed the progress in implementing the global financial regulatory and supervisory agenda and in international cooperation to address financial risks and spillovers that can affect capital flows. They also supported ongoing efforts to address gaps in capital flow data, in collaboration with other international organizations and member countries, mindful of the resource implications of these efforts.

Directors supported follow‑up work on the interaction between macroprudential and capital flow policies, especially the role of macroprudential policy frameworks in addressing systemic financial risks arising from capital flows, taking into account countries’ financial and institutional development. They called for continued close cooperation with the Bank for International Settlements (BIS), the Financial Stability Board (FSB), and the Organization for Economic Co‑operation and Development (OECD), respecting each other’s mandate. Directors called on staff to continue to assess the effectiveness of CFMs, including the extent to which CFMs are circumvented, although they acknowledged that differentiating the effects of CFMs from those of other policies could be challenging.

Directors also saw merit in clarifying further the conditions that could lead to the re‑imposition of CFMs during liberalization and when countries, while not in crisis or imminent crisis circumstances, face other specific challenges. With regard to other issues that have arisen in the debate, a number of Directors were skeptical about the structural use of CFMs to influence the composition of capital flows or to enhance policy autonomy; however, some others felt that this topic, while going beyond the institutional view, deserves further examination, particularly in the context of emerging and frontier markets.

Directors generally saw value in the Fund promoting a more consistent global approach to handling capital flows, including among bilateral and multilateral agreements. They stressed in particular the need to take into account country‑specific macroeconomic and financial stability considerations in determining the appropriate policy response, as emphasized in the institutional view. Directors encouraged further analysis and communication of country experiences, and continued engagement with member countries and other relevant regional and international organizations on capital flow issues. To this end, they supported, in particular, the Fund’s continued engagement with the OECD, including in the ongoing review of the OECD Code of Liberalization of Capital Movements.

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