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Tuesday, February 26, 2008

Symptom or disease?

Dani Rodrik wrote a quite provocative piece on FT today, "We must curb international flows of capital". Bill Easterly's response makes a lot sense to me:

To say that there are crises because of international capital flows is not very meaningful; it is like saying there are recessions because of GDP. Dani and Arvind do not adequately address two big issues on capital flows:

(1) what are the benefits of capital flows? Usually, a voluntary movement of capital signifies a reallocation from a low-return investment to a high-return investment. This raises the rate of return to investment overall, which is usually considered to be a good thing.

(2) To what extent are international capital flow crises the symptom or the disease? They are oftentimes the symptom, so trying to control them to treat macroeconomic imbalances is like treating fevers with ice-baths. Better to confront the underlying imbalances, as Dani and Arvind sensibly recommend in the second half of their column.