Capital Controls and Currency Crises Revisited: A Political Economy Analysis

Abstract

Recent empirical studies have reached mixed results on the effects of capital controls and currency crises. We argue that this relationship is likely to depend both on whether controls are primarily on capital inflows or outflows and on the stability of the government. Using the disaggregated data on capital controls using the newly developed disaggregated data on capital controls for a sample of 56 countries for a sample of 56 countries over the period 1995–2015, we discover some interesting patterns on capital controls and political stability that there is a vanishing middle in terms of the extent of controls and that the use of controls is positively associated with government stability. We also find strong support for the proposition that controls on outflows are positively associated with the probability of currency crises especially under less stable governments, while controls on capital inflows reduce the risks of currency crises, especially for more stable governments.