Capital Account Policies in Chile Macro-financial considerations along the path to liberalization

IMF Working Papers, May 14, 2013

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Recounts Chile’s experience with capital account policies since the 1990s.
Compares how two external shocks were confronted under different macroeconomic and capital account frameworks:
- 1997-98 Asian-LTCM-Russia crisis: closed capital account and relatively rigid exchange rate constrained the monetary policy response, aggravating the fall in domestic demand.
- 2008-09 crisis: full-fledged inflation targeting framework allowed authorities to implement a significant countercyclical response.
Argues that domestic stability considerations underpinned the policy regime switch toward capital account liberalization from 1999 onwards.

The design of capital account policies and exchange rate frameworks materially affected Chile’s ability to respond to external shocks.
During the 1997-98 shock:
- The combination of a closed capital account and a relatively rigid exchange rate "severely constrained the monetary policy response."
- Constrained policy response "aggravat[ed] the fall in domestic demand."
During the 2008-09 shock:
- An inflation targeting framework supported a "significant countercyclical response."
The shift toward capital account liberalization starting in 1999 is presented as driven by domestic stability considerations.

Macroeconomic framework matters for the effectiveness of capital account policies.
Flexible macro policy regimes (e.g., inflation targeting) can enhance the capacity to respond countercyclically to external shocks.
Domestic stability considerations can justify moving toward capital account liberalization when supported by appropriate macroeconomic frameworks.