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Unconventional prudential policy: when are capital controls optimal?
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In an open economy with downward real wage rigidity, the effects of economic fluctuations may be amplified. Furthermore, the wage rigidity creates a negative externality since the current wage floor is a function of the past wage. If it is impossible to implement a fiscal devaluation, the optimal fiscal policy response to downward wage rigidity is characterized by time-varying labor and capital income taxes and zero capital control taxes. Prudential labor income taxes decrease when the wage floor is expected to bind in the future to reduce the current wage and the future wage floor. However, if labor income taxes are unavailable, it becomes optimal to use capital controls prudentially. In this case, a higher capital control tax implements a lower equilibrium wage through its effect on labor supply. We, thus, identify a novel mechanism for the optimality of capital controls in the context of downward wage rigidity
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Fiscal policy Optimal taxation Downward wage rigidity Externalities Macroprudential policy Capital controls
Contexto Educativo
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SSRN
Licença CC
Sem licença CC