Capital restrictions policies, currency appreciation and foreign debts

Abstract

There are two fundamental reasons why governments should force capital controls, to constrain the appreciation of exchange rate, and to deal with the excessive resort to foreign debts that lead to more crisis vulnerability. Subsequently, this paper looks at the impact of capital controls to decrease the volume of foreign borrowing and the exchange rate vulnerability through the analysis of a panel of 60 developed and developing countries over the period 1995-2019. A panel vector auto-regression approach was utilized to develop the empirical study. Results show that capital controls as an instrument of restrictive policies are unable to reduce foreign debts and also fail to limit the exchange rate appreciation. There is no clear evidence that policies using capital restrictions are related to a high level of financial market instability.