Capital Controls and Macro-Prudential Housing Policies in Small Open Economies

Abstract

We evaluate the effects of capital controls and macro-prudential policies in small open economies with a housing sector that is open to foreign ownership. The work is motivated by concerns that foreign investments also respond to housing investment opportunities resulting in potential house price inflation and issues about housing affordability. Our dynamic stochastic general equilibrium model features housing as an internationally traded investment. We also consider macro-prudential policies that are combinations of monetary and fiscal instruments. We investigate whether foreign investments in the housing markets are de-stabilising and whether there are appropriate policy responses to mitigate the negative effects of foreign direct investments in housing. Our simulations suggest: 1) foreign investments in domestic housing are in general welfare-improving and do not de-stabilise house price inflation, 2) coordination between interest rate and time-varying instruments enhances social welfare and is consistent with economic stabilisation, and 3) an active stamp duty on foreign buyers helps to mitigate the welfare loss of savers through a redistribution of the tax revenue received.