Please use this identifier to cite or link to this item: http://hdl.handle.net/10419/126143
Authors: 
Gudmundsson, Gudmundur S.
Zoega, Gylfi
Year of Publication: 
2016
Series/Report no.: 
Economics Discussion Papers 2016-3
Abstract: 
This paper describes the relationship between central bank interest rates and exchange rates under a capital control regime. Higher interest rates may strengthen the currency by inducing owners of local currency assets not to sell local currency off shore. There is also an effect that goes in the opposite direction: higher interest rates may also increase the flow of interest income to foreigners through the current account, making the exchange rate fall. The historical financial crisis now under way in Iceland provides excellent testing grounds for the analysis. Overall, the experience does not suggest that cutting interest rates moderately from a very high level is likely to make a currency depreciate in a capital control regime, but it highlights the importance of effective enforcement of the controls.
Subjects: 
financial crises
capital controls
policy rates
exchange rates
JEL: 
G01
E42
E52
E58
Creative Commons License: 
http://creativecommons.org/licenses/by/3.0/
Document Type: 
Working Paper

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