Why the IMF is Updating its View on Capital Flows

IMF has released a series of policy papers on capital flows.

Tobias Adrian, Gita Gopinath, Pierre-Olivier Gourinchas, Ceyla Pazarbasioglu, and Rhoda Weeks-Brown explain IMF policy stance on capital flows:

Capital flows can help countries to grow and to share risks. But economies with large external debts can be vulnerable to financial crises and deep recessions when capital flows out. External liabilities are riskiest when they generate currency mismatches—when external debt is in foreign currency and is not offset by foreign currency assets or hedges.

The dramatic capital outflows witnessed at the start of the global pandemic and recent turbulence in capital flows to some emerging markets following the war in Ukraine are stark reminders of how volatile capital flows can be—and the impact this can have on economies.

Since the beginning of the pandemic many countries have spent to support the recovery, which has led to a build-up of their external debt. In some cases, the increase in debt in foreign currency was not offset by foreign currency assets or hedges. This creates new vulnerabilities in the event of a sudden loss of appetite for emerging market debt that could lead to severe financial distress in some markets.

In a review of its Institutional View on capital flows released today, the IMF said that countries should have more flexibility to introduce measures that fall within the intersection of two categories of tools: capital flow management measures (CFMs) and macroprudential measures (MPMs).

Today’s review said that these measures, known as CFM/MPMs, can help countries to reduce capital inflows and thus mitigate risks to financial stability—not only when capital inflows surge, but at other times too.