The Liberalization of the Current Capital Accounts and the Real ExchangeRate

Sebastian Edwards

NBER Working Paper No. 2162 (Also Reprint No. r1227)
Issued in February 1987
NBER Program(s):International Trade and Investment, International Finance and Macroeconomics

In this paper a general equilibrium intertemporal model with optimizing consumers and producers is developed to analyze how different policies geared at liberalizing the current and capital accounts of the balance of payments affect the equilibrium real exchange rate (RER). In particular, the effects of a reduction in the level of import tariffs and of a change in the tax on foreign borrowing on the equilibrium RER are investigated. In the case of import tariffs, both a temporary and an anticipated liberalization are considered. It is shown that in the case of tariffs reduction it is not possible to know a priori whether the equilibrium RER will appreciate or depreciate. However, a liberalization of the capital account will always result in an equilibrium real appreciation in the current period. It is then argued that analyses of this type are essential to evaluate whether observed movements in the RER represent a misalignment situation or if they are an equilibrium phenomenon. The case of the recent liberalization attempts in the Southern Cone are also discussed.

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Document Object Identifier (DOI): 10.3386/w2162

Published: "Tariffs, Capital Controls, and Equilibrium Real Exchange Rates." From Canadian Journal of Economics, Vol. 22, No. 1, pp. 79-92, (February 1989).

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