The U.K. Investment Currency Market1

Over the past few years, there has been considerable discussion of the relative merits of various types of controls over international capital movements. Controls that have been the subject of the most analysis and empirical investigation are the dual exchange market and the U. S. Interest Equalization Tax. Yet the U. K. investment currency market, which has operated in various forms for the past 30 years and which stems from the embargo on the export of capital by residents, has been largely neglected.2

Abstract

Over the past few years, there has been considerable discussion of the relative merits of various types of controls over international capital movements. Controls that have been the subject of the most analysis and empirical investigation are the dual exchange market and the U. S. Interest Equalization Tax. Yet the U. K. investment currency market, which has operated in various forms for the past 30 years and which stems from the embargo on the export of capital by residents, has been largely neglected.2

Over the past few years, there has been considerable discussion of the relative merits of various types of controls over international capital movements. Controls that have been the subject of the most analysis and empirical investigation are the dual exchange market and the U. S. Interest Equalization Tax. Yet the U. K. investment currency market, which has operated in various forms for the past 30 years and which stems from the embargo on the export of capital by residents, has been largely neglected.2

In the basic dual exchange market, all capital transactions undertaken by residents and nonresidents take place at the capital exchange rate, and all current transactions take place at the official exchange rate. The United Kingdom’s arrangement is a variant of this system in that only certain capital account transactions attributable to U. K. residents are channeled through the investment currency market, while capital and current account transactions undertaken by nonresidents are conducted at the official exchange rate. The U. K. system thus represents an asymmetric version of the dual exchange market in the sense that participation in the financial exchange market is confined to residents. The stock of assets allocated to this market exceeds £7 billion and the premium over the official exchange rate has fluctuated between zero and 88 per cent. The control has survived several devaluations, the move from a fixed parity to a floating pound, and periods in which removal would probably have had little effect on the balance of payments. With the recovery in prospect for the U. K. balance of payments and with Britain’s commitment to dismantle exchange controls between itself and the European Economic Community (EEC), the present moment is opportune to study the system.

The analysis of the United Kingdom’s investment currency market that follows would be generally applicable to other countries operating a financial exchange market for the use of residents only.3 It would not, however, be applicable without modification to countries operating financial exchange markets in which only nonresidents participate.4 The paper seeks, in particular, to show the effects of the control on the balance of payments and on domestic interest rate policy, to identify the main influences on the size of the premium, to analyze the premium’s implications for U. K. investors, and to assess some of the major changes that have been introduced in the regulation and functioning of the system.

The discussion proceeds as follows: Section I summarizes the basic controls on overseas portfolio investment, identifies the main influences on the size of the premium, and shows the premium’s effects on the risk/return advantages of international diversification by U. K. investors. It goes on to show the significance of the regulation that permits residents to finance overseas portfolio investments by foreign borrowing and the effect of certain direct and property investment flows that have been allocated to this market.

Section II reviews the arguments that have been used in the economic literature to justify capital controls on long-term investment. It then gauges the effectiveness of the U. K. system in fulfilling some of the objectives that controls are designed to meet. In particular, there is an attempt to show whether or not the system confers a measure of independence on U. K. interest rate policy. Then, by working through the effects of abolition of the control, an order of magnitude is given to the outflow that the control is forestalling.

Section III is devoted to an analysis of several variants of the investment currency market that have been in use at various times. It examines the segregation of foreign capital markets and capital flows for exchange control purposes and the multiple premiums to which this gives rise, the parallel operation of an investment currency market for nonresidents, and the possible methods of phasing out controls between the United Kingdom and other member countries of the EEC.

I. Analysis of Present Controls

premium currency

The underlying principle of the investment currency market is that a U. K. resident wishing to purchase foreign currency securities must first obtain the foreign currency from another U. K. resident who is selling foreign securities. This requirement has the result that the value of all purchases of foreign securities, in sterling terms, will equal the value of all sales of foreign securities over any period.5 In consequence, there will never be an outflow of portfolio investment funds on residents’ account. Since nonresidents are not covered by this exchange control system, their transactions will continue to give rise to net inflows or outflows. Because demand by residents for foreign securities has usually exceeded the value of those securities held when they were valued at official exchange rates, a premium, known as the “investment currency” or “Dollar” premium, has developed on the currency. Since there is perfect substitutability of currencies in this market, the premium is the same for all currencies. All dividends paid on these securities must be repatriated at the official exchange rate.

There are a number of modifications to this basic principle. The most important is that, while purchasers must acquire all their currency requirements at the premium rate, sellers are entitled to dispose of only 75 per cent of the proceeds at the premium rate, while the balance must be sold at the official exchange rate. This surrender policy results in a net inflow in the balance of payments on resident investors’ account, the size of the inflow depending on the rate of turnover of foreign securities.

The effect of the control is to create a pool comprising foreign currency securities, the size of which is determined by the following:

(a) The value of overseas portfolio investments when the exchange control regulations were introduced;

(b) Subsequent changes in the value of securities represented in the pool, owing both to changes in the values of the securities, expressed in the relevant foreign currencies, and to exchange rate changes;

(c) Subtractions from and additions to the pool as a result of the surrender policy, variations in the countries covered by exchange control, and other administrative policy changes.

The value of the pool of foreign currency securities, when valued at the official exchange rate at the end of 1976, was approximately £7 billion.6

The investment currency market is used for transactions in securities denominated in currencies of all countries outside the Scheduled Territories, which comprise the United Kingdom, the Channel Islands, the Isle of Man, the Republic of Ireland, and Gibraltar. The geographical distribution of securities in the pool can change in response to net switching from one country to another, to the relative performance of foreign securities markets and currencies, and to changes in the set of countries covered by the controls. Table 1 provides an indication of the estimated geographical spread of the securities held in the pool at the end of 1974 and the end of June 1976.

Table 1.

U.K. Investment Currency Market: Estimated Geographical Distribution of Foreign Currency Securities in the Pool, December 31, 1974 and June 30, 1976

(In per cent)

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Source: The data has been inferred from information on the composition of the turnover of pool securities provided by the dealers in premium currency and from the author’s investigation of the geographical spread of the overseas holdings of investment and unit trusts and other institutional portfolios.

Prior to June 1972, the Scheduled Territories comprised the entire Sterling Area—that is, in addition to the Scheduled Territories as defined at present, most British Commonwealth countries, South Africa, and certain other countries. Controls were extended to the Overseas Sterling Area (OSA) in June 1972, and OSA securities became foreign currency securities. Since U. K. residents’ holdings of securities in the newly-included countries immediately became eligible for sale through the premium market, the pool approximately doubled from its previous value of £ 3 billion.

influences on the premium

The size of the premium at any time is determined by the supply of, and demand for, investment currency. The significant relationship is therefore that between the net demand for investment currency by U. K. investors and the available pool of currency. The premium is the proportion by which the aggregate desired holdings of foreign securities in the portfolios of U. K. residents (excluding those financed by means of overseas borrowing) exceed the pool of foreign securities when these securities are valued at the ruling official exchange rate.

Premium=Aggregatedesiredholdingofforeignsecurities(excludingthosefinancedbymeansofoverseasborrowing)Poolofforeignsecuritieswhenvaluedatofficialexchangerates1

At the end of 1976, with the pool valued at £7 billion and with the premium standing at 45 per cent, U. K. residents were holding investment currency-financed foreign securities with a premium-inclusive market value of £ 10,150 million.7 It is possible to make an estimate of the aggregate value of U. K. investors’ holdings of domestic securities based on the market capitalization of all quoted U. K. securities, making deductions for nonresident holdings. On this basis, premium-worthy foreign securities comprise approximately 15 per cent of the average U. K. security portfolio.

The aggregate demand for foreign securities depends upon the risk/return opportunities offered by foreign securities relative to those available on domestic securities, as well as the aggregate value of U. K. residents’ portfolios. Ceteris paribus, an increase in the expected return on foreign securities will lead to switching from domestic to foreign securities that will push up the premium. Alternatively, an increase in the value of U. K. portfolios will, ceteris paribus, increase the demand for foreign securities and thus will raise the premium as investors seek to hold constant the proportionate composition of their portfolios. Another positive stimulus will occur if investors attempt to reduce portfolio risk by increasing diversification through raising the foreign component of their portfolios.

Turning to the denominator, changes in the value of the pool affect the premium; an increase in the pool will, other things being equal, reduce the premium, and a decrease will raise it. A major cause of variations in the size of the pool are changes in the official rate for sterling, since these affect the values of all securities equally. Thus, a depreciation of sterling will increase the pool in sterling terms and therefore tend to reduce the premium, while an appreciation will have the opposite effect. The size of the pool will also depend upon the price performance of the securities held in it; the more successful the international investment strategy of U. K. investors, the faster will be its growth. However, the surrender policy, introduced in 1965 to increase official reserves, has had the effect of depleting the pool. Since its inception, the surrender requirement has applied to sales of all foreign securities, with the exception of former OSA securities between their inclusion in the exchange control net in June 1972 and March 1974. Table 2 shows the annual contractions in the investment currency pool deriving from the surrender policy. The surrender policy, by reducing the pool, tends to increase the premium over time.8

Table 2.

United Kingdom: Annual Contractions in the Investment Currency Pool Deriving from the Surrender Policy, 1965–76

(In millions of pounds)

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Source: Bank of England, Quarterly Bulletin, various issues.

The relationship between the pool of investment currency and the demand for overseas securities can be demonstrated diagrammatically. (See Figure 1.)

On the vertical axis is the exchange rate between the pound sterling and the dollar—the dollar being used as the numéraire for all foreign currencies. The current official exchange rate is equal to OL. The supply of foreign securities is fixed in the short run in dollar terms, thus giving a zero elastic supply curve TN. DD represents the U. K. demand for foreign currency securities at different exchange rates. The pool of securities, when valued at official exchange rates, is represented by LRNO, the demand for foreign securities by MSNO, and the premium by MLOL.

Chart 1 shows the course of the premium since 1965. The premium is based here on the difference between the investment currency rate and the concurrent official rate. The premium is frequently quoted in the press in relation to the last fixed official parity between the dollar and the pound sterling ($2.60571 = £ 1), thus overstating the true premium. Chart 2 shows the course of the official exchange rate and the investment currency rate between the dollar and the pound sterling since the floating of the pound.

impact on investors

Chart 1.

United Kingdom: Investment Currency Premium, 1965-77

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Source: The Financial Times, various issues.
Chart 2.

United Kingdom: Official and Investment Currency Exchange Rates, 1972-77

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Source: Bank of England, Quarterly Bulletin, various issues.

Investors are mainly concerned with the return and riskiness of securities, and the investment currency premium affects both.9 The standard portfolio theory definition of the return on a domestic security is the change in the price of the security between two dates plus accrued dividends as a proportion of the price at the beginning of the period (or the purchase price).10 The return on a foreign currency security if all settlements took place at the official exchange rate would therefore be the difference between the prices of the securities at the beginning and at the end of the period, converted at the ruling official exchange rates plus the accrued dividends, similarly converted, all as a proportion of the price at the beginning of the period.11

Allowing for exchange controls, the return now becomes based on a sterling equivalent price at the beginning of the period that incorporates the premium and on a price at the end of the period that is inclusive of the premium on all but the 25 per cent surrendered at the official exchange rate.12 Because the dividend is repatriated at the official exchange rate, the proportionate return is reduced by the premium; the higher the premium at the time of purchase, the lower the yield. The 25 per cent surrender is also a factor tending to reduce the return.13

Over the period from the end of 1961 to the end of 1976, an investment in U. K. equities by a resident would have yielded an annual average return of 6.8 per cent. This compares with an annual average return of 7.9 per cent available on U. S. equity investment over the same period, had all settlements taken place at the official exchange rate. If allowance is made for the premium (but the surrender is excluded), this last return becomes 11.5 per cent.14 The additional yield from investment in the United States has therefore been only 1.1 percentage points over this period, although investors in U. S. securities have fared much better because of the rise in the premium. One explanation for the current high level of the premium may be that investors expect the yield differential in favor of overseas securities to widen in the future.

In general, foreign securities offer scope for risk reduction through portfolio diversification. Risk reduction may be obtained because the returns on foreign securities are less variable over time than those on domestic securities. But, at a more general level, because foreign securities markets are subject to different sets of prevailing economic and political conditions, the various overseas securities indices display a relatively low correlation, both with the U. K. securities market and with each other. A U. K. resident’s securities portfolio with international diversification will therefore be less risky than one without.15

The existence of a volatile premium can be expected to alter the variability of the returns on foreign securities and therefore the benefits of international diversification, but these changes are not necessarily systematic.16 However, by comparing the variability and correlation of the premium-inclusive returns with the hypothetical returns that would have been received had the investments been made at the official exchange rate, some indication can be gained of this effect in practice. The quarterly returns on investment in the U. K. and U. S. equity indices were taken for 1962-69, 1969-75, and for the entire period 1962-75. The findings are, first, that, for all three periods, the variability of U. K. equity returns was greater than that of U. S. equity returns, whether the return for the latter was premium-inclusive or calculated at the official exchange rate; the premium also reduced the variability of U. S. equity returns to a U. K. investor.17 Second, the correlation between the U. S. and U. K. returns was higher with the premium than without for the first period but lower for the second period, so that the results here were inconclusive. Third, no systematic change was introduced by the premium in the correlations of returns on equity investment in different countries. The premium was not, therefore, responsible over the period in question for any significant increase in risk, and the potential benefits of international diversification were not noticeably lessened.

borrowing alternative

As an alternative to investment currency financing, investors may finance overseas portfolio investment by foreign currency borrowing. Permission to do this must first be granted by the Bank of England; one of the conditions is that asset cover of 115 per cent must be provided for the overseas loan, with 15 per cent of the amount of the loan being purchased with investment currency. In other words, the foreign currency value of the premium-paid securities must be at least 15 per cent of the foreign currency loan. If a drop in security prices exposes a shortfall in this cover, the purchase of more foreign securities must be made with investment currency to restore the position.

In practice, most investors borrowing abroad already hold a portfolio of foreign securities financed by the premium; they merely earmark part of this as the extra backing for the loan. If, on final sale of the securities, the proceeds are insufficient to repay the loan in full, the balance must be repaid with investment currency, whereas any profit remaining after repayment may be sold for the benefit of the premium, subject to the surrender. Any shortfall between the dividends on the securities and the interest payable on the loan must also be made good with investment currency. Switching of securities financed by overseas borrowing is not subject to the 25 per cent surrender.

The above provisions ensure that the borrowing option does not give rise to any loss to the balance of payments. If a profit is realized on the securities, the capital account benefits to the extent of the proportion surrendered at the official rate, and the size of the pool is increased by the balance of the profit. If there is a loss, this is made good through a purchase of premium currency, which reduces the size of the pool but has no effect on the capital account.

Prior to 1970, there had been only moderate use of overseas borrowing. As shown in Table 3, it developed strongly in 1972 and 1973, but has since fallen back to lower levels. If it is assumed that there was outstanding borrowing of £200 million at the beginning of 1970, and that there were no net currency gains or losses, the total outstanding borrowing was £1,040 million at the end of 1975. Approximately one tenth of overseas portfolio investment was therefore financed by borrowing at the end of 1975.

Table 3.

United Kingdom: Private Portfolio Investment Undertaken with Foreign Borrowing, 1970-75

(In millions of pounds)

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Source: U.K. Treasury.

Repayments with investment currency are generally made when, because of a fall in the value of the securities, the sale proceeds are by themselves insufficient to meet the full cost of loan repayment.

The investor’s choice between financing by investment currency or overseas borrowing will hinge on which offers the more attractive risk/ return prospects. The principal difference is that overseas borrowing largely insulates investors from fluctuations in the official exchange rate and the premium. If the borrowing takes place in the same currency as the investment, changes in the official exchange rate or the premium during the holding period will only alter by a scale factor the capital loss or gain from the transaction. Investors will therefore have a preference for overseas borrowing, other things being equal, when they expect a fall in the premium or a rise in the official exchange rate or, because of the freedom from the surrender penalty on switches under the borrowing option, when they anticipate frequent switching.

A further consideration is that, the larger the amount of overseas borrowing in the financing mix, the higher is the leverage in the overseas investment. Leverage from this source is eliminated if the investor makes a sterling deposit equal to the initial sterling value of the loan. Such combinations of loan and collateral deposit (known as back-to-back loans) are frequently employed and are required by law for investment and unit trusts.

Because expectations about the movements of the relevant variables are not held with certainty, a portfolio of foreign securities will usually be financed by a combination of the two methods, with premium-financed securities providing cover, well in excess of the stipulated minimum of 115 per cent, for the foreign loan.18

Use of the borrowing option has a number of consequences for the size of the pool and the premium. First, the bypass reduces the demand for investment currency and therefore lessens the premium. Some idea of the reduction in demand can be obtained from the data for foreign currency borrowing in Table 3. Second, if foreign securities prices fall, there will be asset cover shortfalls that have to be made good with purchases of investment currency. Falling securities prices have already been associated with a contracting pool and a rising premium, and these are similarly the consequences of the restoration of asset cover. Conversely, rising securities prices are associated with an enlargement of the pool and a falling premium. Rising prices will result in profits from overseas borrowing activities that will also serve to enlarge the pool and to lower the premium. The borrowing option will therefore tend to accentuate the effect on the premium of fluctuating foreign securities prices.

These relationships are well illustrated by what happened in 1974. In the preceding two years, there had been a heavy buildup of overseas borrowing, most of it undertaken to finance investment in securities denominated in other currencies. Investors were tending to pay more regard to interest charges than to exchange risk, and there was extensive borrowing in deutsche mark and Swiss francs in order to invest in dollar securities. The subsequent capital losses had to be made good with investment currency, and these covering purchases were largely responsible for the rise in the premium from 30 per cent to 88 per cent in the 12 months ended in June 1975.

direct and property investment

While the investment currency market was originally designed to cover portfolio investment, the authorities have extended its use over the past 15 years to include certain flows of direct and property investment funds owned by U. K. residents. The conditions under which outward flows of direct and property investment are required to pass through the investment currency market and under which returning inflows are permitted to pass through it have varied from time to time, primarily according to the pressure on the balance of payments. For overseas direct investment by firms, the greater the pressure on the balance of payments, the fewer are the projects that have been eligible to be financed at the official exchange rate and that have had to be financed with either premium currency or foreign borrowing. The controls at the end of 1976 were as tight as they ever have been; the only direct investment eligible to pass through the official market was that which met the “supercriterion,” which is defined as a benefit to the balance of payments equal to the initial outflow within 18 months and continuing thereafter. Profits accruing from all direct investment abroad, together with the proceeds of any disposal of assets, could only be repatriated at the official rate, whereas until March 1974 the liquidation proceeds of direct investment made outside the Overseas Sterling Area and the European Economic Community had been eligible for repatriation through the premium market.

As the premium is not recoverable, it resembles a tax on overseas direct investment.19 The deterrent effect of the premium therefore ensures that only a very small portion of overseas direct investment is financed in this way, since firms find that overseas profit retention and foreign borrowing are lower-cost alternatives. The bias against direct investment as opposed to portfolio investment is contrary to the relative stringency of controls usually accorded to the two types of capital flow by most countries and, indeed, by past policy in the United Kingdom.20

Private property purchases by U. K. residents must also be made with investment currency, but in contrast to the rules for direct investment, 100 per cent of the proceeds of sales may normally be sold for the benefit of the premium. Confining the initial transactions for direct and property investment abroad to the investment currency market ensures that there is no loss to the balance of payments. The purchase of investment currency by a U. K. firm making a direct investment abroad will be matched by a sale of foreign securities or property by another U. K. resident. However, the difference in the consequences for the balance of payments between the use of the investment currency market for direct or portfolio investment is that, whereas 75 per cent of the proceeds of a sale of securities is eligible for the premium, none of the proceeds of a sale of a direct investment are eligible. Since the entire return on direct investment is transmitted at the official rate, the balance of payments will generally benefit more from direct investment than from portfolio investment. The value of the pool will also be reduced by the full amount of any direct investment transacted through the investment currency market.

Because both purchases and sales of private property are channeled through the premium market, consistent analytical treatment requires that U. K. residents’ holdings of private property abroad, valued at official rates, be added to the value of foreign securities to arrive at the full value of the pool. However, the value of these holdings is not known. Also, the use of the market for property fund flows in either direction is small, relative to portfolio investment flows, and they are therefore commensurately less significant in the determination of the premium. In the circumstances, it is probably best to regard property fund flows as giving rise to changes in the size of the pool over time—negative changes for purchases and positive changes for sales.

II. Evaluation

capital controls as policy instruments

Countries usually impose controls on outflows of long-term private investment for one or more of the following reasons:

(a) to reduce the pressure on the balance of payments;

(b) to extend the freedom of maneuver for the monetary authorities;

(c) to increase the amount of domestic investment in preference to overseas investment;

(d) to influence the composition and destination of outward investment.

As a palliative for balance of payments disequilibrium, the imposition of capital controls may be regarded principally as an alternative to exchange rate adjustment. The choice will depend on how responsive the current account balance is to the corrective measures available to the authorities, the likely impact and effectiveness of the capital controls, and how important it is to insulate the current account from pressures deriving from capital flows that may prove to be episodic and without any real root in the normal structure of trade and payments.21 For example, the current account may respond feebly or with an unacceptably long delay to an exchange rate depreciation. The action taken will be influenced by the expected duration of the imbalance; the authorities may not wish to depreciate if they anticipate that the balance of payments pressure is a short-run phenomenon.

Capital controls can be erected with relative ease and, if effectively policed, their immediate consequences are more predictable and quantifiable than those of exchange rate variation. There is a danger, however, that restrictions on the outflow of capital may have a perverse effect on capital inflows or give rise to retaliation abroad. Controls also have a habit of remaining long after the grounds for their inception have disappeared. This observed longevity may be self-defeating, since the capital controls of today may prevent an improvement in the balance of payments in a year or two when the rewards of the overseas investment would have been reaped. Finally, the choice of policy will depend upon the distributional consequences, the international setting, political expediency, and so forth.

The more that freedom of maneuver is sought for monetary policy and the more that fluctuations in exchange rates are limited, the greater is likely to be the need for controls on capital movements. Conversely, the case for capital controls is weaker, the more readily one contemplates floating exchange rates or the abandonment of monetary instruments for domestic purposes. In principle, controls on capital outflows will enable a country to sustain a lower rate of interest than that prevailing in the rest of the world. Nevertheless, there are many linkages between economies that will tend to undermine an autonomous interest rate policy, however tough the capital controls. For instance, leads and lags, export credits, and overseas borrowing will all tend to bring a country’s real interest rate into line with prevailing international rates. Short-term capital movements are more responsive than long-term ones to interest rate differentials, so that controls on long-term capital movements are less relevant if the target is an independent monetary policy. However, such distinctions depend upon the substitutability between the two types of capital flow, and it may be felt that substitutability is sufficiently high at the margin to warrant the extension of controls to both or that to distinguish between the two would give rise to unacceptable distortions.

A recurrent argument for restricting outflows is based on the view that real capital formation at home does more for productivity, employment, and long-run growth than does investment abroad. Thus, even though the private returns are equal, the social return from investment at home is greater. It is also argued that, despite the equality of the private returns, the social returns will be higher at home because, when investment is made abroad, the taxation accrues to the overseas government. Even the existence of tax treaties fails to compensate the domestic exchequer for the forfeited revenue.

Given the decision to impose capital controls, the questions will then be which type to adopt, to which categories of investment it should apply, and whether to cover residents or nonresidents or both. The choices between symmetric and asymmetric two-tier exchange markets, taxation, quantitative controls, etc. will be based on how much restriction is sought and on which control is the most efficient in exerting the desired influence on the target variable.22 It will also depend upon whether one method rather than another gives rise to any especially unpalatable side effects, such as the loss of international financial intermediation or undue losses or windfall gains to residents or nonresidents. There will also be the fundamental issue of enforceability—can the dual markets be effectively separated or can the control be policed without excessive cost?

interest rate differential

The U. K. investment currency market can now be evaluated in the light of this summary of the general case for capital controls. Consider first the effects of the investment currency controls on the relative returns to portfolio and direct investment available in the United Kingdom and the rest of the world (RoW). In the absence of controls over flows of direct investment between the United Kingdom and RoW— and given the satisfaction of the usual competitive conditions—the expected real returns on long-term real investment will be equated (at each level of risk) despite the existence of exchange rate fluctuations. If portfolio investment funds can flow freely between the United Kingdom and RoW, then, under the same set of ideal conditions, the expected real returns to investment in bonds and equities will also be equated. If exchange controls are imposed by either the United Kingdom or RoW, whether on inflows or outflows of both direct and portfolio investment, capital flows may be prevented from exercising their equalizing influence. The disparity in expected real returns will depend upon the type and the stringency of the controls.

If controls are imposed by either the United Kingdom or RoW on the flows of portfolio investment, but not on the flows of direct investment, the returns on direct investment will be equated; however, the equalization of the returns on portfolio investment depends upon the degree of substitutability between direct and portfolio investment in the United Kingdom and RoW. If there is anything less than perfect substitutability, the returns on portfolio investment will not, in general, be equated. Assume that the only restriction on the free flow of capital between the United Kingdom and RoW is the U. K. investment currency control and that it relates exclusively to portfolio investment flows. The investment currency market will prevent any flows of portfolio investment funds into or out of RoW by U. K. residents. If direct and portfolio investment are perfect substitutes in both areas, there will be no obstacles to the equalization of the returns on both direct and portfolio investment between the United Kingdom and RoW. If there is not complete substitutability, then the portfolio investment funds of U. K. residents cannot be used as an instrument of equalization of returns on portfolio investment. However, if the residents of RoW are free to allocate their funds between the two areas, their portfolio investment fund flows will, in general, act as an instrument of equalization. The same is true even if the investment currency market extends to full or partial coverage of direct investment.

The conclusion is thus that the asymmetric investment currency market will not necessarily prevent the equalization of expected real returns in the United Kingdom and RoW, since nonresident capital will be able to perform the equalizing role. Of course, if rUK < rRoW, residents in RoW may not have sufficient funds already invested in the United Kingdom to repatriate and so promote the equalization. On the other hand, as stated in the preceding section, there are other ways in which interest rates tend to be drawn together between countries, even in the absence of capital flows.

The preceding analysis has shown that the U. K. investment currency market, when it relates to portfolio investment flows alone, does little to assist the authorities in the pursuit of an independent monetary policy. The flows of direct investment funds owned by U. K. residents and flows of all categories of nonresident capital will result in an equalization of the expected real rates of return in the United Kingdom and RoW. Rather more scope for autonomy is conferred when the investment currency market is extended to direct investment. There may also be scope for a lower real interest rate in the United Kingdom if nonresident asset holding in the United Kingdom is relatively small.

The prediction of this analysis is borne out by the evidence of the past 15 years. The annual average return to U. K. investors in domestic government bonds over the period 1962-76 was 7.0 per cent per annum, whereas the return available to them on U. S. Government bonds, allowing for changes in the official exchange rate, would have been 7.4 per cent. The evidence on the return from equities has already shown that the differential was a mere 1.1 per cent per annum in favor of the United States.

In the light of the preceding analysis, why would a premium ever develop on investment currency? In other words, would U. K. residents ever wish to invest abroad if it involved a penalty in the form of a lower real return on investment than that available in the United Kingdom? On the basis of the assumptions that have been made, they would not, and, consequently, no premium (or, for that matter, no discount) would ever develop on investment currency. If some of the assumptions are relaxed, however, we see that a premium may arise.

In the first place, expectations about the return and the riskiness of portfolio investment in the United Kingdom and RoW on the part of residents in both areas may differ, so that the expected return may appear equalized to residents in one area but not to residents in the other. In this event, a premium may develop on investment currency so as to equalize the expected returns as perceived by U. K. residents. Second, the U. K. investment currency market will not usually be the only control in operation between the United Kingdom and RoW. Nonresident capital may be prevented from performing its equalizing function by deterrents to capital inflows into the United Kingdom other than those of an exchange control nature,23 or there may be capital controls operated in RoW. Third, exchange rates do not, in general, adjust in such a manner as to offset price level differentials exactly. If adjustment is delayed or jerky, there will be incentives for short-term purchases of foreign currency assets by U. K. residents.

outflow prevented by the control

Some idea of the balance of payments significance of the investment currency market can be gained by working through the consequences of abolition. By appealing to comparative static analysis of the mean-variance approach to portfolio theory, it is possible to make some tentative statements about the possible capital outflow for the general case of abolition and, by inserting the current figures, to get an indication of the possible outflow if abolition occurred now.

Let the observed pre-abolition value of the aggregate desired holdings of foreign securities, when valued to include the premium, be Σ0 and the post-abolition value of desired holdings be Σ1. The lifting of controls would cause the premium to disappear, and investors would be left holding foreign securities amounting to the value of the pool, S. Assume, for the moment, that the elimination of the premium rate does not affect the official exchange rate, so that S remains unchanged following abolition. As investors sought to build up their holdings to the desired post-abolition level, the capital outflow would be (Σ1 − S).

Σ0 would not necessarily be equal to Σ1 because the disappearance of the premium will change the risk/return characteristics of foreign securities and the value of U. K. residents’ portfolios. Following abolition, the proportionate return on foreign securities will increase because both dividends and capital will now be channeled through the official market and the surrender penalty will disappear.24 This increase in return will be greater, the higher the premium prior to abolition. In Section I, it was reported that the variance of return on overseas investment might be reduced by the existence of the premium, but that there was no systematic change in the covariance between the returns on U. K. and U. S. investment or between the returns on equity investment in different countries. Comparative static analysis of the mean-variance approach to portfolio theory seeks to determine how the optimal weights of an individual’s portfolio will respond to changes in the expected return and risk.

Royama and Hamada (1967) found that, while a decrease in the variance of the return of a particular security led to an unambiguous increase in the proportion in which that security was held, changes in both the expected return and the covariance between returns on that security and any other had essentially indeterminate effects. This indeterminacy arises from the possibility that the wealth effect may be positive or negative. By adopting somewhat more restrictive assumptions concerning the portfolio holder’s preference function, Jones-Lee (1971) was able to derive the prediction that an increase in the return on the security led to an increase in the proportion in which that security was held. Abolition, therefore, increases the return, which, in turn, implies an increase in the desired holdings of foreign securities (Σ1 > Σ0).

The change in risk and its impact on demand is not clear-cut. Abolition may increase the risk according to past evidence on the variances/covariances; this implies a negative effect on demand. Variance/covariance evidence, however, does not capture the risk of abolition that will invariably be on investors’ minds, so this should be included as one of the risks of holding premium-financed securities. The higher the premium, the greater the risk of loss from abolition; but also the higher the premium, the less probable abolition becomes because of its cost to the balance of payments. If the effect of risk on demand is deemed more or less neutral, we are left with Σ1 > Σ0 based on the increase in return.

The sudden loss of the premium reduces the aggregate value of U. K. investors’ portfolios by 0 − S) or (1 − x)(Σ0S) if investors value their holdings at realizable, rather than replacement, value. It may seem paradoxical that a move toward greater freedom in capital mobility actually involves a cost to investors. However, those investors who held foreign securities when these exchange controls were introduced back in 1947 have received a benefit, and the loss now would be the counterpart of this benefit. Exchange control was an alternative to the devaluation of sterling, and both strategies would have increased the value of foreign security portfolios. If investors were to hold constant the proportionate composition of their portfolios, the proportion of total U. K. portfolios that the previously mentioned loss represented would be an indication of the proportionate fall in demand for foreign securities owing to the wealth effect.

Drawing together the risk/return effect and the wealth effect, with its negative impact on demand, it seems unlikely that Σ1 would differ greatly from Σ0, implying that, as investors adjust their portfolios following abolition, the outflow would be (Σ0 − S).

In Figure 1, the demand curve shifts from DD to D′D′ owing to the wealth effect, and the outflow in sterling terms is RUVN, which would be approximately equal to MSRL. It has so far been assumed that the official rate will remain constant at OL. In practice, the outflow would probably cause the rate to fall, which, in turn, would choke off some of the outflow. Moreover, the inflow of funds into countries overseas could lead to a rise in foreign securities prices, thus providing a further offset. The conclusion is that, in general, the higher the premium, the greater the outflow that is prevented. Based on the above analysis, with the premium at 45 per cent and the pool valued at £7 billion, abolition would result in an immediate outflow of £3,150 million as investors adjusted their portfolios. After the initial outflow, there would be ebbs and flows, depending upon the expectations of relative money rates of return and exchange rate changes in the United Kingdom and elsewhere.

There are a number of ways in which the asymmetric two-tier market can be designed to yield a result other than a zero net flow of funds. The authorities might, for example, intervene by making purchases in the investment currency market so as to decrease the pool and to swell the official reserves.25 However, this policy would be costly and, given that the pool is finite, the scope for making compensatory purchases to offset a large and persistent current account deficit is limited. The U. K. authorities do not intervene in the market for this or, indeed, for any other purpose, although through the surrender policy, they do ensure that the investment currency market yields a net inflow.26 There are, however, a number of problems created by the surrender policy. First, it causes the premium to be higher than it would be in the absence of such a policy; the higher premium leads to policing problems and con notes weakness in sterling as well. Nonresidents, observing the premium U. K. residents are prepared to pay to invest outside the domestic market, might feel disinclined to buy U. K. securities. To the extent that this is true, then the balance of payments saving indicated earlier would be reduced by the amount of the inflow that is deterred.

Second, the surrender penalty inhibits switching, since utility maximizing investors will fail to switch from one foreign security to another (equally risky) foreign security offering a higher expected return unless the expected return on the alternative exceeds that on the existing holding by a margin that will compensate them for their surrendered premium. So long as investors’ expectations concerning the relative returns are fulfilled, the balance of payments will suffer from the surrender policy because investors will not necessarily be holding securities offering the highest returns. The third drawback is that the surrender inhibits speculation in the premium market. Speculation has the merit of increasing the rate of turnover, thereby making the market less narrow and reducing dealing margins. The consensus of the literature on speculation is that it may also have the effect of stabilizing the rate.

All dual exchange markets confront the problem of market separation, although the symmetric two-tier exchange market is almost certainly subject to greater leakages than the investment currency market because of nonresident participation and because the financial market rate usually covers a wider range of capital transactions than does the U. K. scheme.27 The divergence of the investment currency rate and the official exchange rate in the past is testimony to the widespread observance of the present U. K. controls. Nevertheless, evasion is known to occur and can take two forms: (a) the export of capital at the official exchange rate that should have been channeled through the premium market; (b) the selling of foreign currency investments for the benefit of the premium when they have not borne it at the time of purchase.

The effect of (a) is to reduce the demand for investment currency, although probably by a good deal less than the amount of the illegally converted funds because of the higher exchange cost involved. The major effect comes from (b), since these sales increase the size of the pool and therefore tend to depress the premium.

some further considerations

The investment currency market has survived for 30 years, yet during this time there have been a number of occasions when the authorities might reasonably have considered abolition. These included the period in the early 1960s when the premium almost disappeared, the devaluation of the pound in 1967, and the move from a fixed parity to a floating pound in 1972. The strength of the case perceived by the authorities for the market’s retention at any time will depend upon prevailing conditions.

Against the balance of payments benefit of the system must be set the costs. The costs imposed on investors stem from the restriction on the export of capital for portfolio investment.28 The premium to which this restriction gives rise reduces the return on overseas securities while the surrender compounds this effect. The overseas borrowing option gives investors scope to augment their holdings of foreign securities but not to increase their net foreign position. The borrowing arrangement therefore serves to reduce only partially the loss of utility imposed by the control.

The cost of the control to the community as a whole includes the resources devoted to its administration and some loss of international arbitrage business. For example, following the extension of controls to South African securities in 1972 and the imposition of the surrender on former Overseas Sterling Area securities in 1974, the London Stock Exchange has lost international arbitrage business in South African securities to stock exchanges in New York and elsewhere. Even more recently, the London Stock Exchange has failed to make progress with plans for a Chicago-style options market in major European equities, in no small measure owing to the complexities introduced by the investment currency premium. This has left the field open to the Dutch, who are planning to start trading in options next year.

With the major improvement that has already occurred and the favorable prospect for the U. K. balance of payments in the next year or two, consideration will almost certainly be given to the lifting of restrictions on overseas portfolio investment. A major stumbling block is the capital loss that would be incurred by existing investors. The authorities will feel bound to weigh this carefully, since investors comprise mainly investment and unit trusts, insurance companies, pension funds, and other institutional investors. The impact of lifting restrictions would be substantial and widespread, and, unlike, say, a fall in domestic security prices that will often be temporary, it would have to be regarded as an irrevocable loss.

III. Alternative Arrangements

This section examines some of the variants of the investment currency market that have been adopted in the past 30 years. It also considers a major policy change to which the authorities are committed in the future.

dual pool system

From the passing of the Exchange Control Act of 1947 until 1954, U. K. residents were not permitted to switch between securities quoted in different non-sterling area currencies.29 In 1954, there was a relaxation that sanctioned switching by U. K. residents of securities quoted in any of the non-sterling area countries excluding the United States and Canada. Since no new funds could be exported and since the proceeds of sales of these securities could be transferred between residents, a premium, known as the “soft dollar” premium, developed on this currency. At the same time, switching between securities quoted in the United States and Canada was permitted, and this gave rise to the “hard dollar” premium. There were thus two pools of investment currency, the size of each being determined by the value of U. K. residents’ portfolio investments in the area at the time of the institution of exchange control and by subsequent changes in the value of the securities represented in each pool over time. The main feature of the two-pool arrangement was that it ensured that the net flows of portfolio investment funds between the United Kingdom and both sets of countries were zero, whereas the one-pool system simply ensures that the net flows between the United Kingdom and the rest of the world as a whole is zero. The markets were merged in 1962, when the two premiums diverged little and both were close to the official parity.

The authorities’ objective in imposing restrictions on the switching of securities between currencies and sets of currencies was probably to ensure that there was no net withdrawal of funds by U. K. residents from the respective countries lest it provoke a rundown of sterling balances. The cost of the segmentation policy was that investors in the aggregate were restricted in their freedom to vary the distribution of their portfolios among foreign currencies. The premiums in the two-pool version could adjust to reflect the perceived attractions of the two currency groups, but the size of the underlying pools was unresponsive to switching by investors.

As a general rule, investor utility is lessened if transferability between residents of foreign currency for security purchases is restricted or if the geographical composition of overseas investments is constrained. The evolution of the U. K. exchange controls and the emergence of a single pool and full transferability between residents has therefore benefitted investors.

“security sterling” and “property currency”

Running parallel with controls on residents were those on nonresidents. From March 1953, blocked sterling balances were allowed to be transferred between residents of the same country or monetary area, and from September 1953, transfer was permitted between all nonresidents. Blocked sterling, or security sterling as it came to be known, could be invested in any U. K.-quoted security denominated in a sterling area currency. Markets in security sterling developed in foreign centers, and the rate of exchange invariably stood at a discount to the official rate. Purchases and sales of securities by nonresidents continued to be channeled through the security sterling market until April 1967, when restrictions on nonresidents were lifted.

For several years there were, in effect, two back-to-back investment currency markets yielding, in principle, a zero net flow of portfolio investment funds for residents and nonresidents, both separately and combined. The arrangement may be contrasted to the fully symmetric two-tier exchange market.30 The latter ensures a zero net flow only of resident and nonresident funds combined. Thus, in the symmetric version, residents may augment their holdings of overseas assets if there is a corresponding increase in nonresident’s holdings of domestic assets. Furthermore, the premium confronting residents would be equivalent to the discount facing nonresidents, whereas in the U. K. version, the premium and discount were independent. There would also be a larger turnover in the unified financial exchange market of the full two-tier system, and the scope for intervention by the authorities to influence the overall balance of payments would be much enhanced.

From April 1965, U. K. residents were no longer allowed to buy private property outside the sterling area with investment currency, as they had been permitted to do since April 1964. Instead, they were required to buy the property for sterling from another resident or to purchase foreign currency in the “property currency” market at the prevailing premium. This experiment in segregating the markets according to category of capital flow was short-lived. The market turned out to be lumpy and narrow, and three years later it was merged again with the investment currency market. In part, the failure occurred because it was more difficult to police residents who were often buying property with the intention of taking up permanent residence overseas.

phasing out for the eec

A significant change in the coverage of U. K. exchange controls is in prospect in the next few years. One of the conditions of the United Kingdom’s entry into the EEC was that the U. K. Government agreed to adjust its exchange control regulations so as to conform to the provisions of Community directives on capital movements and to complete such adjustments over a transitional period of five years after accession in 1973. Each category of capital flow between the United Kingdom and other EEC countries was allocated a terminal date by which it had to be freed from exchange controls. U. K. portfolio investment in the EEC was the final category in the phased program of liberalization, with a terminal date of December 31, 1977. The United Kingdom has sought and obtained postponements of its accumulated liberalization commitments on balance of payments grounds in each of the past three years. It will undoubtedly be more difficult to obtain further postponements if the balance of payments recovery continues.

No indication has been given of how the liberalization of portfolio investment would be conducted. There are a number of possibilities, and each has rather different implications for the balance of payments. One is that, overnight, and without prior warning, U. K. residents might be required to use the official exchange rate for all subsequent purchases and sales of EEC securities. Investors would lose the premium on these holdings, and the pool would be reduced accordingly. The cost to the balance of payments would amount to the relatively small outflow prompted by investors seeking to restore the proportionate composition of EEC securities in their portfolios that had been depleted by the loss of the premium. A second possibility is that advance warning of abolition might be provided. If an early date were given, investors would sell all their premium-worthy EEC securities before the due date, the size of the pool would decline only by the amount of the surrender, and the subsequent outflow would be greater than in the first option as investors would have to build up their entire EEC holdings again through the official exchange market.

A third alternative is that the pool might be divided into two—one pool for non-EEC securities and a second, and smaller, pool for EEC securities—with the decision on final abolition deferred for several years. Using this method, liberalization could be introduced more gradually, the cost to the balance of payments kept to a minimum, and sudden short-term losses to investors avoided.

With the eventual removal of controls between the United Kingdom and the EEC, a major problem presents itself (assuming there are still controls for non-EEC countries), namely, the leakage of U. K.-owned capital through the EEC into non-EEC countries. This could only be cured by a uniform, equally well-patrolled fence of capital controls round the Community as a whole.

IV. Summary and Conclusions

A justification often used for capital controls is that they confer a measure of independence on monetary policy. One of the criteria of independence is the extent to which domestic real interest rates can be differentiated from those prevailing abroad. The above analysis has shown that, since the investment currency market ensures a zero net outflow of U. K. residents’ funds but leaves nonresidents’ funds unregulated, the latter can perform the function of rate equalization. In fact, the return differential between U. K. and U. S. bonds, allowing for changes in the official exchange rate, was less than one half of a percentage point per annum between 1962 and 1976; on equities, it was only one percentage point per annum.

Another closely allied justification for capital controls is the balance of payments saving that they ensure. Even though interest rates may be more or less equalized by nonresidents, there will still be a balance of payments saving represented by the suppressed demand for international portfolio diversification from U. K. investors. This is borne out historically by the size of the premium, despite the very modest improvement in return offered by overseas investment. The analysis showed the balance of payments saving by working through the effects of abolition and indicated that, on the basis of the assumptions adopted, the initial outflow, with the premium at 45 per cent and the pool presently standing at approximately £.7 billion, would probably be in the region of £ 3 billion.

The cost of the controls is represented by the loss of utility to investors stemming from the restriction on the export of capital and the penalty of the consequent premium. Since the overseas borrowing option fails to give investors scope to augment their net foreign position, it only partially offsets their welfare loss. A further cost of the system is some loss of international arbitrage business.

There is no official intervention in the premium market, but the surrender policy ensures a tendency toward a depletion of the pool and an addition to official reserves. The surrender has the drawback that it tends to push up the premium, thus aggravating policing problems, as well as acting as a deterrent to switching of securities by investors.

One of the conditions of the United Kingdom’s entry into the EEC in 1973 was that there would be a progressive liberalization of capital controls between the United Kingdom and other member countries. Portfolio investment was scheduled for liberalization by the end of 1977, but deferment of this obligation has been granted on balance of payments grounds in each of the last three years. Further deferment may be difficult to obtain if the current and capital accounts of the balance of payments continue to improve. If the premium no longer applied to EEC securities but controls were retained for the rest of the world, policing problems would be greatly aggravated by the abundant scope for capital diversion. However, it is mainly in the context of the recovery in the balance of payments that consideration may be given by the authorities to the lifting of restrictions and to the abolition of the investment currency market.

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ERRATA

The following revisions in the July 1977 issue of Staff Papers should be noted:

1. On page 410, equation (3) should read FEB = G − T(YP).17

2. On page 416, equation (13) should read ΔCEB=Δ(GT)(G1ny¯T1ny).29

3. On page 417, equation (16) should read FEBYP=CEBY+CNB*YP.

4. On page 427, the second sentence in the first full paragraph should read, “These measurements are based on the assumption that a budget is neutral if it implies constancy of shares in potential levels of output.”

5. On pages 442 and 444, Charts 5 and 6 are reversed. The chart on page 442 (excluding title and footnotes) should appear on page 444, while the chart on page 444 (excluding title) should appear on page 442.

SUMMARIES

The Impact of Monetary and Fiscal Policy Under Flexible Exchange Rates and Alternative Expectations Structures—donald j. mathieson (pages 535-68)

A number of economists have argued that, in order to understand recent exchange rate movements, one must examine the process by which exchange rate expectations are formulated. To describe the influence of exchange rate expectations on the adjustment process, this paper examines a small, open economy’s response to either an increase in the money supply or a higher level of debt-financed government spending under the assumption that exchange rate expectations are either rational, semirational, or adaptive. It is argued that the economy’s response to an increase in the money supply is much more sensitive to the expectations structure than is its response to an increase in government spending. The analysis also shows that, following an increase in the money supply, the exchange rate will overshoot its long-run value regardless of the type of expectations structure that exists. And, in general, the domestic interest rate will be the variable most strongly influenced by the manner in which the private sector formulates its expectations.

Downward Price Inflexibility, Ratchet Effects, and the Inflationary Impact of Import Price Changes: Some Empirical Evidence—morris Goldstein (pages 569-612)

This article examines the effect of import price changes on the domestic rate of inflation for each of five large industrial countries—the United States, the Federal Republic of Germany, Japan, the United Kingdom, and Italy. More specifically, empirical tests are conducted to determine if there is an asymmetry, or ratchet effect, as between the effect of positive versus negative changes in import prices on the rate of change of domestic prices. Since devaluations and revaluations usually give rise, respectively, to positive and negative changes in import prices (as measured in domestic currency), the existence of such a ratchet effect could have serious consequences for the global inflationary impact of exchange rate changes.

The empirical tests are carried out using six alternative models of inflation in the open economy. Annual data are used throughout, and the period of study is from 1958 to 1973. Also, both aggregated (gross domestic product (GDP) deflator) and disaggregated (price of manufactures) price data are used in the empirical tests to provide at least some protection against aggregation bias in the results.

The estimated equations for the Federal Republic of Germany and the United Kingdom consistently fail to uncover any evidence of an asymmetry, while those for the United States, Italy, and Japan show more mixed results, with significant asymmetries appearing in some models but not in others. When all five countries are viewed as a whole via the estimation of pooled cross-sectional, time-series regression equations, the asymmetry hypothesis is rejected, and this is true for both the aggregated and disaggregated price data. All in all, the empirical tests reported in the paper do not support the hypothesis that negative changes in import prices have a significantly different proportionate effect on domestic prices than do positive changes. As such, the relationship between exchange rate changes and the rate of domestic inflation would seem to be consistent with “virtuous” as well as “vicious” circles.

Compensatory Financing: The Cyclical Pattern of Export Shortfalls—l. m. goreux (pages 613—41)

Compensatory financing may be considered an insurance scheme allowing members to borrow at low interest rates when their export earnings fall below trend and to repay when their export earnings rise above trend. For the last twenty years, nine tenths of the variance in the sum of the export shortfalls experienced by the 71 Fund members that may be considered primary producing countries is explained by variations in two world economic indicators characterizing, respectively, manufacturing activity in the major industrial countries and inflation in world trade. By contrast, only about one third of the variance in individual country shortfalls is explained by the same two indicators. At the country level, the effects of events specific to each country, such as floods and political crises, are dominant. When country shortfalls are added up, the effects of country-specific events largely offset each other, and only the effects of the variations in the world economic indicators remain apparent. For that reason, the sum of country shortfalls follows a highly cyclical pattern that is closely linked to the economic cycle in major industrial countries.

The study shows that the sum of the positive country shortfalls can be derived very accurately from the algebraic shortfall in the aggregated earnings of the 71 sample countries. It indicates how the sum of the positive country shortfalls can be projected on the basis of forecasted values for the two world economic indicators. The study also considers two possible modifications in the definition of export shortfalls. It shows that the sum of country shortfalls would be reduced by about one third if the trend value were measured as a geometric average instead of as an arithmetic average. When the trend value is taken as a geometric average, whether shortfalls are calculated in nominal terms or in real terms does not affect the average size of shortfalls calculated for a large number of consecutive years; the method of calculation only affects the distribution of shortfalls from year to year.

Exchange Rate Policy in Japan: Leaning Against the Wind—peter j. quirk (pages 642-64)

The period since the introduction of generalized floating has been marked by wide variation in the extent of official intervention in foreign exchange markets. This, and the scope for different strategies under international agreements, has made evaluation of these policies difficult. The purpose of this paper is to explore certain quantitative methods that might be brought to bear on this problem, using developments in Japan over the period March 1973-October 1976 as a reference. A policy reaction function is estimated and applied; in the process, the paper also investigates the relevance of various theories of exchange rate determination, including the asset equilibrium approach, to the short-run dynamics of the yen exchange rate.

Forms of policy response tested include intervention to moderate exchange movement (leaning against the wind) and intervention directed toward various forms of exchange rate target, such as purchasing-power-parity equilibrium rates and a constant level for the yen/dollar rate. The results support the view that the underlying Japanese strategy has been to lean against the wind, with transactions volume in the Tokyo spot market also influencing the policy response. The residuals of the reaction function are used to evaluate the relative intensity of intervention in each subperiod.

The asset equilibrium theory of exchange rate determination stresses the role of interest differentials in the short run; changes in these are found to be significant in determining monthly movements of the yen exchange rate. Expected developments in the current balance of payments are also found to be a significant factor, but official purchases and sales on the Tokyo foreign exchange market are not found to have systematically influenced the exchange rate. Nor is the short-run version of the purchasing-power-parity view of exchange rate determination supported by these tests.

Monetization of Developing Economies—anand g. chandavarkar (pages 665-721)

This paper attempts, in the light of a critical review of the concepts and the empirical evidence, to develop a conceptual framework and an agenda for further research on the analysis and measurement of monetization in the less developed countries (LDCs).

Monetization tends to be used rather uncritically as a portmanteau concept in the literature, but it should properly be defined as the enlargement of the sphere of the money economy through the absorption of the non-monetized barter and subsistence sector, and should be clearly differentiated from commercialization and financial intermediation. Since there is no pure subsistence sector in reality, the nonmonetized sector should be understood as a statistical aggregate of the imputations to nonmonetized economic activities, whose economic rationale derives from the search by rural households for survival rather than from maximizing algorithms in an environment of high risk and uncertainty. The most meaningful measure of monetization is the monetization ratio, that is, the proportion of aggregate output paid for in money by the purchaser. Consequently, to capture the level and trend of monetization it is necessary to show the relative shares over time of the monetized and nonmonetized sectors in the national accounts at constant prices. Such data are currently not available for most LDCs, notable exceptions being Papua New Guinea and Tonga—particularly the latter, which has possibly the most highly disaggregated national accounts among the LDCs. Historically, monetization has been an evolutionary, albeit discontinuous, process. It tends to assume an asymptotic character after a certain critical threshold, which varies among economies. But it is a significant ex ante variable for financial programming in economies that still have a substantial nonmonetized sector, as in Southeast Asia, the South Pacific region, and tropical Africa. The fiscal implications of monetization are also relevant insofar as tax policy affects the incentives of the subsistence sector and the component of nonmonetized consumption determines the effective incidence of taxation. Consequently, the tax structure and rates would need to be appropriately modified in keeping with the pace and direction of monetization.

There is, however, a real need for detailed research on the structure and behavior of the nonmonetized sector as well as the nature and effects of monetization on crucial variables, such as the marketed surplus of major subsistence sectors and the portfolios of households and financial institutions. The paper, therefore, formulates a conceptual model of monetization as well as suggestions for an appropriately disaggregated system of national accounts.

Corporation Income Tax Structure in Developing Countries—george e. lent (pages 722-55)

This paper considers not only the modalities of the corporation income tax and the tax treatment of dividend income but also tax rate structure, discrimination between different forms of business organization, and discrimination between foreign and domestic shareholders.

Differences in economic and social conditions in developing countries call for separate appraisal by each country of the comparative merits of various corporation tax structures in terms of equity, economic efficiency, and administrative convenience. Although equity considerations would appear to favor methods that avoid economic double taxation of dividends, this would be true only if the incidence of the corporation tax were on capital. The uncertainty of the incidence, however, cautions against a decision on this basis.

A separate entity system may have some advantages in attracting new investment because the tax rate may be much lower than that of integrated systems that raise an equivalent amount of revenue. It is also usually assumed that separate taxation of dividends encourages the reinvestment of earnings more than other systems, although there is no evidence that this is true.

Tax discrimination between corporations of different sizes and between corporations and partnerships can best be avoided by integration of individual and company taxes, through either an imputation system or an undistributed profits tax. Although personal taxes may be avoided under these systems by retaining earnings, there is also an opportunity for shareholders to escape the corporation tax by distributing earnings.

It is difficult to achieve parity of tax treatment between domestic and foreign shareholders. Double taxation may be avoided by the country of residence if it provides credits for taxes paid to the country of source. When a developing country’s income taxes on earnings remitted abroad fall short of the credit allowable by the principal capital exporting country, it is possible for the country to exploit the tax revenue differential by increasing its withholding taxes on dividends.

The analysis is undertaken with reference to the corporation tax structures and tax rates for 80 developing countries.

The U. K. Investment Currency Market—paul k. woolley (pages 756-86)

In the basic dual exchange market, all capital transactions undertaken by residents and nonresidents take place at the financial exchange rate, and all current transactions take place at the official exchange rate. The U.K. investment currency market is a variant of this system in that all portfolio investment, and certain direct and property investment, transactions attributable to U.K. residents are channeled through the investment currency market, while all capital and current transactions undertaken by nonresidents are conducted at the official exchange rate. While the basic dual exchange market has been the subject of extensive analytical study, the U.K. version has been largely neglected despite the fact that it has been in operation for 30 years.

The paper seeks, in particular, to show the effects of the market on the balance of payments and on domestic interest rate policy. The basic conclusions are that the market does not, in general, contribute to the insulation of domestic interest rate policy, but that it does prevent a capital outflow, the potential size of which is closely related to the magnitude of the premium at the time. The paper also attempts to identify the main influences on the size of the premium, which has fluctuated between zero and 88 per cent in recent years. It goes on to show the effects of the premium on the risk/return benefits of international diversification by U.K. investors and investigates the conditions under which an investor will prefer to bypass the investment currency market by borrowing abroad to finance overseas investment. Finally, there is an attempt to assess the implications of a number of policy changes in the regulation of this market that have been introduced in recent years, both from the point of view of the investor and from that of the authorities. In addition, the paper considers the U.K. commitment to phase out the controls on investment in other EEC countries.

The analysis developed in this paper would be generally applicable to the several other countries operating financial exchange markets for residents where the rate is allowed to float. It would not, however, be applicable without modification to those countries operating financial exchange markets in which only nonresidents participate.

RESUMES

L’impact de la politique monétaire et de la politique budgétaire dans un régime de changes flottants et suivant différentes structures d’anticipations—donald j. mathieson (pages 535-68)

Un certain nombre d’économistes ont soutenu qu’il fallait, pour comprendre les mouvements récents des taux de change, analyser le processus de formation des anticipations concernant ces taux. Pour décrire l’incidence de ces anticipations sur le processus d’ajustement, le présent document étudie les réactions d’une économie ouverte, de petite dimension, à un accroissement soit de la masse monétaire, soit du volume des dépenses publiques financées par l’emprunt, en prenant pour hypothèse que les anticipations relatives aux taux de change sont rationnelles, semi-rationnelles ou évolutives. Il est affirmé que la structure des anticipations influence beaucoup plus profondément les réactions de l’économie à une expansion de la masse monétaire que ses réactions à une augmentation des dépenses publiques. L’analyse montre également que, à la suite d’un accroissement de la masse monétaire, le taux de change dépassera sa valeur à long terme, quel que soit le type d’anticipation. Enfin, le taux d’intérêt intérieur sera, en général, la variable la plus fortement influencée par le mode de formation des anticipations du secteur privé.

Rigidité à la baisse des prix, effets de cliquet et incidence inflationniste des fluctuations des prix à l’importation: quelques tests empiriques—morris goldstein (pages 569-612)

Le présent article examine l’effet des variations des prix à l’importation sur le taux d’inflation intérieur de cinq grands pays industriels—Etats-Unis, République fédérale d’Allemagne, Japon, Royaume-Uni et Italie. Plus spécifiquement, des tests sont effectués pour déterminer s’il y a asymétrie, ou effet de cliquet, entre l’effet des variations positives et celui des variations négatives des prix à l’importation sur le taux de fluctuation des prix intérieurs. Etant donné que les dévaluations et réévaluations suscitent généralement des variations positives et négatives, respectivement, des prix à l’importation (mesurées en monnaie nationale), l’existence d’un tel effet de cliquet pourrait avoir de graves conséquences pour l’incidence inflationniste globale des variations du taux de change.

Les tests empiriques sont effectués à l’aide de six modèles différents d’inflation dans une économie ouverte. Les données utilisées d’un bout à l’autre sont des données annuelles et la période étudiée s’étend de 1958 à 1973. De plus, des données agrégées (indice d’ajustement du PIB) et désagrégées (prix des produits manufacturés) sont utilisées pour les prix dans les tests empiriques aux fins de protection contre la distorsion causée par l’agrégation dans les résultats.

Les équations estimées pour la République fédérale d’Allemagne et le Royaume-Uni ne permettent pas de découvrir l’existence d’une asymétrie, alors que celles établies pour les Etats-Unis, l’Italie et le Japon donnent des résultats mixtes, des asymétries importantes apparaissant dans certains modèles, mais pas dans d’autres. Lorsque ces cinq pays sont considérés comme un tout par estimation d’équations de régression de séries chronologiques raccordées relatives aux différents pays, on doit rejeter l’hypothèse de l’asymétrie, et il en est ainsi pour les données de prix agrégées comme pour les données désagrégées. Dans l’ensemble, les tests empiriques décrits dans cette étude ne confirment pas l’hypothèse selon laquelle l’effet proportionnel des variations négatives des prix à l’importation sur les prix intérieurs est notablement différent de celui des variations positives. Tel quel, le rapport entre les fluctuations des taux de change et le taux de l’inflation intérieure semblerait conforme à la théorie du cercle «vertueux» aussi bien que celle du cercle «vicieux».

Financement compensatoire: la structure cyclique des moins-values des recettes d’exportation—l. m. goreux (pages 613-41)

Le financement compensatoire peut être considéré comme une assurance permettant aux membres du Fonds d’emprunter à faibles taux d’intérêt lorsque leurs recettes d’exportation tombent au-dessous de la tendance (moins-value d’exportation) et d’opérer le remboursement lorsqu’elles s’élèvent au-dessus de la tendance (plus-value d’exportation). La présente étude est basée sur un échantillon de 71 membres du Fonds qui peuvent être considérés comme des pays de production primaire. Au cours des vingt dernières années, la variance de la somme des moins-values d’exportation enregistrées par ces 71 pays s’explique à concurrence des neuf dixièmes par les fluctuations de deux indicateurs économiques mondiaux qui caractérisent, respectivement, l’activité manufacturière dans les principaux pays industriels et l’inflation dans le commerce mondial. En revanche, un tiers seulement de la variance des moins values de chaque pays s’explique par les deux mêmes indicateurs. Au niveau national, les effets d’événements particuliers à chaque pays, tels que les inondations et les crises politiques, jouent un rôle prédominant. Lorsqu’on fait la somme des moins-values de chaque pays, les effets des événements spécifiques à chaque pays se compensent largement, et seuls les effets des variations des indicateurs économiques mondiaux demeurent apparents. Pour cette raison, la somme des moins-values des pays et, en conséquence, les sommes déboursées par le Fonds au titre du financement compensatoire sont étroitement liées au cycle économique des principaux pays industriels.

Cette étude montre que l’on peut estimer avec une grande précision la somme des moins-values des pays à partir des moins-values ou plus-values calculées à partir des recettes de l’ensemble des 71 pays de l’échantillon. Elle indique comment il est possible de projeter la somme des moins-values des pays sur la base des valeurs prévues des deux indicateurs économiques mondiaux. L’étude examine également deux modifications possibles de la définition des moins-values des recettes d’exportation. Elle montre que la somme des moins-values des pays serait réduite d’environ un tiers si on mesurait la valeur tendancielle comme une moyenne géométrique et non comme une moyenne arithmétique. Lorsque la valeur tendancielle est définie comme une moyenne géométrique, que les moins-values soient calculées en valeur nominale ou en valeur réelle n’influe pas sur l’importance moyenne des moins-values calculées pour une longue série d’années consécutives; la méthode de calcul n’influe que sur la répartition des moins-values d’une année à l’autre.

Politique des taux de change au Japon: modération des forces du marché—peter j. quirk(pages 642-64)

Depuis le flottement généralisé des taux de change, l’intervention officielle sur les marchés des changes a largement varié. Du fait de ces variations et des différentes stratégies pouvant être adoptées dans le cadre des accords internationaux, l’évolution des politiques de change s’est avérée difficile. L’auteur de la présente étude se propose d’examiner certaines méthodes quantitatives susceptibles d’apporter une solution à ce problème, en se référant à l’évolution de la situation au Japon entre mars 1973 et octobre 1976. Par l’estimation et l’application d’une fonction d’intervention, il teste la validité des diverses théories relatives à la détermination du taux de change, notamment celle de l’équilibre des actifs financiers, dans le contexte de la dynamique à court terme du taux de change du yen.

Les formes d’intervention testées comprennent une intervention visant à modérer les fluctuations du taux de change (modération des forces du marché) et une intervention orientée vers la réalisation d’objectifs de taux de change, tels les taux d’équilibre des parités du pouvoir d’achat et un rapport de change constant yen/dollar. Les résultats confirment l’opinion selon laquelle la stratégie qui sous-tend la politique du Japon a été de modérer les forces du marché, le volume des transactions sur le marché au comptant de Tokyo ayant aussi influé sur la réaction des autorités. Les résultats résiduels de la fonction d’intervention ont été utilisés pour évaluer l’intensité relative de l’intervention pendant chaque sous-période.

La théorie de la détermination du taux de change par l’équilibre des actifs financiers souligne le rôle des écarts entre les taux d’intérêt à court terme; on constate que les variations de ces écarts jouent un rôle important dans la détermination des mouvements mensuels du taux de change du yen. On constate également que les prévisions concernant l’évolution de la balance des paiements courants est un facteur significatif, mais que les achats et les ventes officiels sur le marché des changes de Tokyo n’ont pas systématiquement influé sur le taux de change. Les tests effectués ne confirment pas non plus la thèse selon laquelle l’évolution du taux de change est influencée à court terme par les parités du pouvoir d’achat.

Monétisation des économies en développement—anand g. chandavarkar (pages 665-721)

La présente étude s’efforce, à la lumière d’une analyse critique des notions et de l’expérience, de mettre au point un cadre conceptuel permettant d’analyser en profondeur le degré de monétisation dans les pays moins développés (PMD) et de fixer un calendrier à ces travaux.

On a tendance, dans la littérature économique, à utiliser cette notion d’un point de vue assez peu critique sans bien en préciser le sens, mais il conviendrait de la définir comme étant l’expansion de la sphère de l’économie monétaire par l’absorption du secteur de subsistance et de l’économie de troc non monétisée, et de la distinguer clairement de la commercialisation et de l’intermédiation financière. Comme il n’existe pas de secteur de subsistance à proprement parler, il faut entendre, par secteur monétisé, un agrégat statistique des opérations imputées aux activités économiques non monétisées, dont la raison d’être économique provient de la lutte pour la vie des ménages ruraux et non pas de la maximisation d’algorithmes dans une ambiance de risque et d’incertitude élevés. La mesure la plus significative de la monétisation est le coefficient de monétisation, c’est-à-dire la proportion de la production globale que l’acheteur règle en espèces. C’est pourquoi, afin de se rendre compte du niveau atteint par la monétisation et de sa tendance, il est nécessaire de montrer les parts relatives qui échoient dans le temps aux secteurs monétisé et non monétisé dans les comptes nationaux à prix constants. A l’heure actuelle, on ne dispose pas de ce genre de données pour la plupart des PMD, à l’exception notable de la Papouasie/Nouvelle-Guinée et de Tonga—surtout ce dernier, qui a peut-être les comptes nationaux les plus minutieusement ventilés des PMD. De tout temps, la monétisation a été un processus évolutif marqué de temps d’arrêt. Après avoir atteint un certain seuil critique, elle semble adopter un caractère asymptotique qui varie d’un pays à l’autre. Mais elle représente une variable ex ante significative pour la programmation financière dans les économies qui possèdent encore un secteur non monétisé très important, comme c’est le cas en Asie du Sud-Est, dans la région du Pacifique Sud et en Afrique tropicale. Les implications budgétaires de la monétisation sont également intéressantes dans la mesure où la politique fiscale agit sur les stimulants offerts au secteur de subsistance et où la composante de la consommation échappant à la monétisation détermine l’incidence effective de l’imposition. Il conviendrait, en conséquence, de modifier de façon appropriée la structure et les barèmes de l’imposition, conformément au rythme et à l’évolution de la monétisation.

Un examen approfondi de la structure et du comportement du secteur non monétisé ainsi que de la nature et des répercussions de la monétisation sur les variables essentielles, telles que l’excédent commercialisé des principaux secteurs de subsistance et le portefeuille des ménages et des institutions financières, est donc une nécessité réelle. La présente étude formule, par conséquent, un modèle de monétisation ainsi que certaines suggestions permettant de désagréger les comptes nationaux par un système approprié.

Structure de l’impôt sur le revenu des sociétés dans les pays on développement—george e. lent (pages 722-55)

La présente étude examine non seulement les modalités de l’impôt sur le revenu des sociétés et le régime fiscal appliqué au revenu des dividendes mais également la structure des taux d’imposition, la discrimination entre les diverses formes d’organisation des entreprises et la discrimination entre les actionnaires étrangers et nationaux.

En raison des différences qui existent entre les conditions économiques et sociales des divers pays en développement, chaque pays doit évaluer séparément les avantages comparés des diverses structures fiscales applicables aux sociétés du point de vue de l’équité, de l’efficacité économique et de la commodité administrative. Des considérations de justice sembleraient favoriser des méthodes qui évitent la double taxation économique des dividendes, mais ceci ne serait vrai que si l’incidence de l’impôt sur les sociétés retombait sur le capital. Le caractère incertain de cette incidence, cependant, met en garde contre l’adoption d’une décision sur cette base.

Un système imposant séparément les entreprises peut présenter des avantages pour attirer de nouveaux investissements parce que le taux d’imposition risque d’être beaucoup plus faible qu’avec des systèmes intégrés qui font rentrer un montant équivalent de recettes. On suppose aussi habituellement que l’imposition distincte des dividendes encourage le réinvestissement de ces dividendes plus que les autres systèmes, mais rien ne prouve qu’il en soit ainsi.

Le meilleur moyen d’éviter la discrimination entre les impôts sur les sociétés de différentes statures et entre les sociétés par actions et les sociétés en nom collectif consiste à intégrer les impôts sur les personnes physiques et sur les personnes morales en adoptant soit un système d’imputation, soit un impôt sur les bénéfices non distribués. Bien qu’il soit possible d’éviter l’impôt sur les personnes physiques dans le cadre de ces systèmes en ne distribuant pas les dividendes, les actionnaires ont également l’occasion d’échapper à l’impôt sur les sociétés si les dividendes ne sont pas distribués.

Il est difficile de réaliser la parité du régime fiscal entre les actionnaires nationaux et étrangers. On peut éviter la double imposition par le pays de résidence si ce dernier prévoit un crédit pour les impôts versés au pays qui est la source des dividendes. Lorsque les impôts sur le revenu d’un pays en développement dus sur les gains payés à l’étranger sont inférieurs au crédit autorisé par le principal pays exportateur de capitaux, ce pays peut exploiter l’écart entre les recettes fiscales en augmentant l’impôt sur les dividendes retenu à la source.

L’analyse a été effectuée par référence à la structure de l’impôt sur les sociétés et aux taux d’imposition de 80 pays en développement.

Le marché des divises d’investissement au Royaume-Uni—paul k. woolley (pages 756-86)

En regime normal de double marché des changes, toutes les transactions en capital effectuées par des résidents et des non-résidents ont lieu au taux de change financier alors que toutes les transactions courantes sont fondées sur le taux de change officiel. Le marché des devises d’investissement au Royaume-Uni constitue une variante de ce système en ce sens que tous les investissements de portefeuille, ainsi que certaines transactions directes et investissements immobiliers attribuables aux résidents du Royaume-Uni se font par l’intermédiaire du marché des devises d’investissement cependant que toutes les transactions en capital et toutes les transactions courantes des non-résidents se font au taux de change officiel. S’il est vrai que le régime classique du double marché des changes a déjà été analysé en profondeur, sa version britannique, bien qu’en vigueur depuis 30 ans, a été largement passée sous silence.

Dans son étude, Paul K. Woolley cherche, entre autres, à mettre en lumière les effets exercés par ce marché sur la balance des paiements et la politique intérieure du taux d’intérêt. Ses conclusions de base sont que le marché ne contribue en général pas à l’isolement de ladite politique mais qu’il empêche des sorties de capitaux dont l’ampleur éventuelle est étroitement liée à l’importance de la prime. L’auteur s’efforce aussi d’identifier les principaux facteurs qui influent sur l’importance de la prime qui, ces dernières années, se situait entre zéro et 88 pour 100. Il montre ensuite les effets de la prime sur les avantages en matière de risque et de rendement qu’apporte la diversification internationale aux investisseurs britanniques et il analyse les conditions dans lesquelles un investisseur préfère éviter le marché des devises d’investissement et emprunter à l’étranger pour financer ses investissements extérieurs. Enfin, l’auteur essaie d’évaluer les implications d’un certain nombre de changements apportés ces dernières années à la réglementation de ce marché, tant du point de vue de l’investisseur que de celui des autorités. Il examine ensuite l’engagement pris par le Royaume-Uni d’éliminer progressivement le contrôle des investissements effectués dans les autres pays de la CEE.

L’analyse entreprise dans ce document pourrait s’appliquer à plusieurs autres marchés des changes financiers pour résidents où le taux flotte librement. Elle ne serait cependant pas applicable sans modification aux marchés des changes financiers qui ne touchent que les non-résidents.

RESUMENES

El impacto de las políticas monetaria y fiscal en un régimen de tipos de cambio flexibles y con diversas modalidades de expectativas—donald j. mathieson (páginas 535-68)

Varios economistas han sostenido que, para poder comprender los últimos movimientos de los tipos de cambio, debe examinarse el proceso mediante el cual se formulan las expectativas pertinentes a los tipos de cambio. Con el objeto de explicar la influencia que dichas expectativas tienen en el proceso de ajuste, este trabajo examina la reacción de una economía pequeña y abierta, ante un aumento de la oferta monetaria o ante un nivel más alto del gasto público financiado mediante déficit, según se haga el supuesto de que las expectativas relativas al tipo de cambio son racionales, semirracionales o adaptables. Se sostiene que la reacción de la economía ante un incremento de la oferta monetaria es mucho más sensible a la modalidad de expectativas que su reacción ante un aumento del gasto público. El análisis también señala que, a raíz de un aumento de la oferta monetaria, el tipo de cambio sobrepasará su valor a largo plazo, cualquiera sea la modalidad de expectativas que exista. Y, en general, la variante más drásticamente influida por la forma en que el sector privado plantee sus expectativas será el tipo de interés interno.

Inflexibilidad de los precios a la baja, efectos de trinquete e impacto inflacionario de la variación de los precios de importación: Algunas pruebas empíricas—morris goldstein (páginas 569-612)

En este artículo se examina el efecto que producen las variaciones de los precios de importación en la tasa interna de inflación de cinco grandes países industriales: Estados Unidos, la República Federal de Alemania, Japón, el Reino Unido e Italia. Concretamente, se llevan a cabo pruebas empíricas para determinar si existe alguna asimetría, o efecto de trinquete, entre el efecto de las variaciones positivas y el de las negativas de los precios de importación en la tasa de variación de los precios internos. En vista de que las devaluaciones y revaluaciones suelen dar lugar, respectivamente, a variaciones positivas y negativas de los precios de importación (medidos en moneda nacional), la existencia de dicho efecto de trinquete podría tener graves consecuencias para el impacto inflacionario global de las fluctuaciones de los tipos de cambio.

Las pruebas empíricas se llevan a cabo empleando seis posibles modelos de inflación en una economía abierta. En todo el estudio, que abarca el período de 1958 a 1973, se usan datos anuales. Además, en las pruebas se emplean, en cuanto a los precios, datos agregados (deflactor del producto interno bruto) y desagregados (precios de los productos manufacturados) para proteger los resultados, al menos en parte, contra el sesgo de agregación.

Las ecuaciones estimadas para la República Federal de Alemania y el Reino Unido no dan prueba en ningún momento de la existencia de una asimetría, en tanto que las correspondientes a Estados Unidos, Italia y Japón arrojan resultados más desiguales: algunos modelos, pero no otros, muestran asimetrías de importancia. Cuando los cinco países se consideran en conjunto mediante la estimación de ecuaciones de regresión de series cronológicas representativas combinadas, se rechaza la hipótesis de la asimetría, y esta conclusión se aplica tanto a los datos agregados como a los desagregados relativos a los precios. En general, las pruebas empíricas cuyos resultados se presentan en el trabajo no corroboran la hipótesis de que las variaciones negativas de los precios de importación producen en los precios internos un efecto proporcional significativamente diferente del de las variaciones positivas. Por lo cual la relación entre las variaciones de los tipos de cambio y las de la tasa de inflación interna parece ser compatible tanto con un círculo “virtuoso” como “vicioso”.

Financiamiento compensatorio: El carácter cíclico de la disminución de los ingresos de exportación—l. m. goreux (páginas 613-41)

El financiamiento compensatorio puede ser considerado como un sistema de seguro que permite a los países miembros obtener préstamos a bajo tipo de interés cuando sus ingresos de exportación disminuyen y alcanzan un nivel inferior a la tendencia normal, y rembolsarlos cuado dichos ingresos vuelven a aumentar y alcanzan un nivel superior a dicha tendencia. En los veinte últimos años, el 90 por ciento de la varianza de la suma de las disminuciones de ingresos de exportación experimentadas por los 71 países miembros del Fondo que pueden considerarse como países de producción primaria queda explicada por la variación de dos indicadores de la economía mundial, que caracterizan, respectivamente, a la actividad manufacturera en los principales países industriales y la inflación en el comercio internacional. En cambio, sólo un 33 por ciento de la varianza de la disminución de ingresos de exportación de cada país queda explicada por los mismos dos indicadores. En el caso de cada país en particular, son predominantes los efectos de ciertos acontecimientos específicos, como inundaciones o crisis políticas. Al sumar las diminuciones de ingresos de exportación de los países, los efectos de los acontecimientos particulares de cada país se contrarrestan entre sí en gran parte, y sólo persisten los efectos de la variación de los indicadores de la economía mundial mencionados. Por esta razón, la suma de las disminuciones de ingresos de exportación de los países sigue una trayectoria cíclica y estrechamente relacionada con el ciclo económico de los principales países industriales.

Este estudio demuestra que la suma de las disminuciones de los ingresos de exportación pueden obtenerse con gran precisión del valor algebraico de esta disminución en el valor global de los ingresos de los 71 países de la muestra. Se explica la forma en que la suma de las disminuciones de ingresos de exportación de los países pueden proyectarse en base a los valores previstos de los dos indicadores de la economía mundial mencionados. También se consideran en este estudio dos posibles modificaciones de la definición de disminución de ingresos de exportación. Se indica que la suma de las disminuciones de ingresos de exportación podría reducirse aproximadamente en un 33 por ciento si el valor de la tendencia se midiera como promedio geométrico y no como promedio aritmético. Cuando el valor de la tendencia se considera como promedio geométrico, el hecho de calcular las disminuciones en términos nominales o en términos reales no afecta al promedio de las disminuciones calculadas para un gran número de años consecutivos; el método de cálculo sólo afecta a la distribución de las disminuciones de un año a otro.

La política de tipos de cambio de Japón: Moderación de las fuerzas del mercado—peter j. quirk (páginas 642-64)

El período posterior a la implantación de la flotación generalizada se ha caracterizado por una amplia variedad en el grado de intervención oficial en los mercados de divisas. Esto, junto con la posibilidad de adoptar otras estrategias en virtud de acuerdos internacionales, ha dificultado la evaluación de las políticas de intervención. El objetivo de este trabajo es analizar ciertos métodos cuantitativos que podrían aplicarse a este problema, utilizando como referencia los acontecimientos económicos acaecidos en Japón entre marzo de 1973 y octubre de 1976. Se estima y se aplica una función de reacción de política; al mismo tiempo, se investiga también la pertinencia de diversas teorías sobre la determinación del tipo de cambio—incluido el método del equilibrio de los activos—con respecto a la dinámica a corto plazo del tipo de cambio del yen.

Entre las formas de reacción de política sometidas a prueba aquí, se hallan la intervención moderadora de las variaciones del tipo de cambio (moderación de las fuerzas del mercado) y la intervención dirigida hacia diversas clases de metas para el tipo de cambio, como los tipos de equilibrio de la paridad de poder adquisitivo y un nivel constante para el cambio yen/dólar. Los resultados corroboran que la estrategia fundamental japonesa ha sido la de moderar las fuerzas del mercado, habiéndose visto influenciada también la reacción de política por el volumen de transacciones del mercado a la vista de Tokio. El residuo de la función de reacción se emplea para evaluar la intensidad relativa de intervención en cada subperíodo.

La teoría del equilibrio de los activos para la determinación del tipo de cambio pone de relieve la función a corto plazo de las diferencias entre los tipos de interés; las variaciones de dichas diferencias resultaron ser significativamente útiles en la determinación de las fluctuaciones mensuales del tipo de cambio del yen. La evolución prevista de la balanza de pagos corriente también resultó ser un factor importante, pero las compras y ventas oficiales en el mercado de divisas de Tokio no parecen haber ejercido una influencia sistemática sobre el tipo de cambio. Las pruebas tampoco sustentan la versión a corto plazo de la teoría de la paridad de poder adquisitivo para la determinación del tipo de cambio.

Monetización de las economías en vías de desarrollo—anand g. chandavarkar (páginas 665-721)

Este trabajo, a la luz de una revisión crítica de los conceptos y las pruebas empíricas, trata de desarrollar un marco teórico para analizar y medir la monetización en los países menos desarrollados (PMD) y un temario para investigaciones ulteriores.

En la literatura sobre el tema, la palabra monetización tiende a usarse indiscriminadamente como una especie de “cajón de sastre”; pero debe definirse en debida forma como una ampliación de la esfera de la economía monetaria mediante la absorción de los sectores no monetizados de trueque y subsistencia, y diferenciarse claramente de la comercialización y la intermediación financiera. Como no hay realmente ningún sector de subsistencia puro, el sector no monetizado debe interpretarse como un agregado estadístico de las imputaciones por actividades económicas no monetizadas cuya explicación económica deriva de la búsqueda de la supervivencia por parte de los hogares rurales más que de la maximización de algoritmos en un ambiente de alto riesgo e incertidumbre. La medida más importante de la monetización es el coeficiente de monetización, o sea, la proporción del producto agregado que el comprador paga en dinero. Por consiguiente, para captar el nivel y la tendencia de la monetización hay que indicar la participación relativa, a lo largo del tiempo, de los sectores monetizados y no monetizados en las cuentas nacionales a precios constantes. Por el momento no se dispone de los datos necesarios para casi ninguno de los PMD, con las notables excepciones de Papua Nueva Guinea y Tonga, sobre todo este último cuyas cuentas nacionales presentan posiblemente el mayor grado de desagregación entre los PMD. Históricamente, la monetización ha sido un proceso evolutivo, aunque discontinuo. Tiende a asumir carácter asintótico pasado cierto umbral crítico que varía según las economías. Sin embargo, es una importante variable ex ante en la programación financiera de economías que aún tienen un sector no monetizado grande, como las de Asia sud-oriental, la región del Pacífico sur y Africa tropical. Las consecuencias fiscales de la monetización también son relevantes en la medida que la política tributaria afecta a los incentivos del sector de subsistencia y el componente de consumo no monetizado determina la incidencia efectiva de la tributación. Por consiguiente, la estructura y las tasas impositivas tendrían que diseñarse adecuadamente para que armonicen con el ritmo y dirección de la monetización.

Sin embargo, hay una verdadera necesidad de investigar detalladamente la estructura y comportamiento del sector no monetizado y también la naturaleza y efectos de la monetización en variables decisivas, como el excedente comercializado de importantes sectores de subsistencia y las carteras de activos de hogares e instituciones financieras. Por lo tanto el estudio formula un modelo teórico de monetización y presenta sugerencias para un sistema apropiadamente desagregado de cuentas nacionales.

La estructura del impuesto de sociedades en los países en desarrollo—george e. lent (páginas 722-55)

En este estudio no sólo se consideran las modalidades del impuesto sobre el ingreso de las sociedades y el trato fiscal dado a los dividendos, sino también la estructura de las tasas impositivas y la discriminación existente entre distintos tipos de organización empresarial y entre accionistas nacionales y extranjeros.

Las diferentes circunstancias económicas y sociales reinantes en los países en desarrollo exigen un estudio separado, país por país, del mérito relativo de las diversas estructuras del impuesto de sociedades por lo que a equidad, eficiencia económica y ventajas administrativas se refiere. Pudiera parecer que en aras de la equidad convendría adoptar métodos que eviten la doble imposición de los dividendos, aunque sólo si la incidencia del impuesto de sociedades se produjera sobre el capital. Como dicha incidencia es dudosa, toda decisión basada en ese supuesto debe considerarse cuidadosamente.

El sistema que dé a la empresa y los accionistas una entidad separada quizás ofrezca algunas ventajas al atraer nuevas inversiones como consecuencia de una tasa impositiva que, con igual volumen de recaudación tributaria, puede ser muy inferior a la que dispongan los sistemas integrados. También se suele suponer que la imposición separada de los dividendos fomenta la reinversión de las ganancias más que otros sistemas, aunque no existen pruebas que lo confirmen.

La mejor manera de evitar la discriminación fiscal entre empresas de diferente tamaño y entre las diversas formas de asociación empresarial consiste en integrar la imposición sobre la persona física y las sociedades mediante un sistema de imputación o en base a un impuesto sobre las utilidades no distribuidas. Si bien entonces la retención de las utilidades permite evitar los impuestos personales, también cabe que los accionistas las distribuyan para eludir así el impuesto de sociedades.

No es fácil lograr la igualdad de trato fiscal entre accionistas nacionales y extranjeros. El país de residencia puede evitar la doble imposición si concede una desgravación por los impuestos pagados al país donde el ingreso se origine. Cuando el gravamen sobre la ganancias remitidas al extranjero que un país en desarrollo imponga no alcance a cubrir la desgravación autorizada por el país exportador de capital que haya realizado el principal aporte, el primero puede aumentar el nivel de retención en el origen que aplica al impuesto sobre los dividendos y aprovechar así la diferencia creada en el ingreso fiscal.

En el trabajo se analizan las estructuras del impuesto de sociedades y las tasas impositivas de 80 países en desarrollo.

El mercado británico de monedas de inversión—paúl k. woolley (páginas 756-86)

En el caso típico de un mercado doble de divisas, se aplica un tipo de cambio financiero a las transacciones de capital efectuadas por residentes, mientras que las transacciones corrientes se realizan al tipo de cambio oficial. El mercado de monedas de inversión que existe en el Reino Unido es una variante de dicho sistema, ya que todas las transacciones de inversión de cartera y las de determinadas inversiones directas y en bienes, atribuibles a residentes del Reino Unido, van canalizadas a través del mercado de monedas de inversión, mientras que todas las transacciones financieras y corrientes llevadas a cabo por no residentes se efectúan al tipo de cambio oficial. Si bien el caso típico de mercado doble de divisas ha sido objeto de amplio estudio analítico, se ha desatendido bastante el análisis de la variante británica, pese a que ha venido funcionando durante 30 años.

En el presente estudio se trata en particular de mostrar los efectos derivados de dicho mercado sobre la balanza de pagos y la política interna de tipos de interés. La conclusión fundamental consiste en que el mercado no contribuye por lo general a aislar la política de tipos de interés, pero sí impide una salida de capital cuya posible cuantía guarda íntima relación con el valor de la prima. Se investigan también los principales factores que influyen en dicho valor, que en los últimos años ha oscilado entre cero y el 88 por ciento, y se pasa luego a describir los efectos de la prima sobre las ventajas que la diversificación internacional le reporta al inversionista del Reino Unido en términos de riesgo/rendimento, analizándose en qué condiciones preferiría aquél prescindir del mercado de monedas de inversión y acudir a préstamos exteriores para financiar inversiones fuera del país. Por último, se trata de determinar la repercusión que sobre la regulación de dicho mercado han tenido algunas modificaciones de política introducidas en los últimos años, desde el punto de vista tanto del inversionista como de las autoridades. Un aspecto adicional de análisis se refiere al compromiso contraído por el Reino Unido de eliminar gradualmente los controles sobre la inversión efectuada en otros países de la CEE.

En general, el presente análisis podría aplicarse a los países que, para uso de los residentes, mantienen mercados financieros de divisas en un régimen de flotación, aunque habría que adaptarlo si en dichos mercados interviniesen únicamente no residentes.

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*

Mr. Woolley, economist in the Exchange and Trade Relations Department, received his doctorate from the University of York, England, where he was also a member of the faculty. He has been a member of the U. K. Stock Exchange and a Specialist Adviser to the House of Lords. His contributions to academic and financial journals have been mainly in the field of international finance.

1

The research on which this paper is based was begun while the author was at the University of York, and was then financed by the Esmée Fairbairn Charitable Trust. In addition to colleagues at the Fund, the author is grateful to Heather Hunter for her assistance in preparing this paper.

2

To the best of the author’s knowledge, the only previous studies have been Woolley (1974 and 1976), a description of the mechanics of the market published by the Bank of England in 1976 (See “The Investment Currency Market,” Bank of England, Quarterly Bulletin, Vol. 16 (September 1976), pp. 314-22.), and an extended reference in Cairncross (1973).

3

France operated a security currency market for residents’ transactions in various foreign securities between 1969 and 1971, and in Norway and Sweden, foreign securities are transferable between residents at a premium, although the foreign exchange itself is not negotiable.

4

South Africa has a securities rand market for nonresidents. Until recently, the Netherlands had an “O-guilder” market for nonresidents investing in Dutch bonds.

5

This is qualified by any changes that may occur in stocks of liquid investment currency held by dealers or investors.

6

In 1977, the Bank of England estimated the value of U. K. portfolio investment abroad at approximately £8,150 million at the end of 1976. But it stated that this was no more than a broad indication and that this figure overstated the size of the pool by including securities that were financed by foreign currency borrowing and, therefore, were not premium-worthy. The figure of £7 billion used here was obtained after a deduction of £1,150 million was made that represents the estimated value of the securities financed by overseas borrowing. These figures are drawn from “An Inventory of U. K. External Assets and Liabilities: End-1976,” Bank of England, Quarterly Bulletin, Vol. 17 (June 1977), p. 198.

7

This was the replacement value, since it included the full premium, whereas if investors allowed for the 25 per cent surrender, a realizable value of £9,360 million was indicated.

8

If there is a turnover of the pool of proportion a per period, then at the end of period t, the pool will have a value St, of

St = Soe-αxt

where S0 is the value of the pool at t=0. We therefore have the premium at time t equal to

πt=ΣS0eαxt1

where Σ denotes the aggregate desired holdings of foreign securities in residents’ portfolios.

dπtdt>0andd2πtdt2>0

9

It is assumed in this paper that investors observe the axioms for portfolio selection first proposed by Markowitz (1959), and that investors’ preferences may therefore be described by an ordinal preference function.

U = U(R, σ)

where

U = an ordinal preference index

R = expected portfolio rate of return

r = variance of portfolio rate of return

and where

UR>0Uσ<0.

10

r=P1+dP01

where P0 is the buying price, P1 is the selling price, and d is the dividend payable in the holding period.

11
r=C1(P1+d)C0P01(1)

where C0 is the official exchange rate between sterling and the relevant currency at the time of purchase, C1 is the exchange rate at the end of the period, and the dividend is converted at C1.

12
r=C1P1[1+(1x)π1]+c1dC0P0(1+π0)1(2)

where π0 and π1 are the premiums at the time of purchase and sale, respectively, and x is the surrender proportion. The dividend is again assumed to be converted at the official exchange rate at the end of the period, since it is not eligible for the premium.

13

This discussion has implicitly assumed that the foreign currency in which the securities are denominated has a unitary exchange rate and free convertibility. For certain countries of interest to U. K. residents (e.g., South Africa, Belgium), there are dual exchange markets and other capital controls that must be taken into account in calculating the return. In order to formulate the expected return, the investor must therefore make estimates not only of P1, C1, π1, and d, together with any possible changes in U. K. exchange controls (such as might, for example, affect *•), but must also try to anticipate any relevant changes or developments in regulations or two-tier markets abroad.

14

The returns are based on the U.K. Financial Times—Actuaries 500-share index and the U.S. Standard and Poor’s 425-share industrial index. U. S. investment is taken as the proxy for overseas investment because of its heavy weighting in the pool. Equity returns, rather than bond returns, have been used, since the premium penalizes fixed-interest investment and ensures that few foreign bonds are purchased with investment currency.

15

For a discussion of the potential gains from international diversification, see Grubel (1968) and Levy and Sarnat (1970).

16

In portfolio theory terms, the effect can be assessed in terms of the change in the variance of the returns on the foreign securities and the covariances between the returns on the various foreign securities and between the returns on foreign and domestic securities.

17

These findings are reported in greater detail in Woolley (1976).

18

The capital return on securities purchased with investment currency is: crk=C1P1[1+(1x)π1]C0P0(1+π0)1

This is the same as the overall return except that it omits the dividend element, which is considered separately below. The capital return, assuming that the borrowing and the investment are in the same currency and that a back-to-back loan is employed, is

crβ=C1(P1P0)[1+(1x)π1]C0P0

If P1 − P0 < 0, x = 0, whereas if P1 − P0 > 0, x = 0.25.

Where the investment takes place in a different currency from the borrowing, the capital return is

crβ=[C1P1C0P0C0P0+F0F1F0][1+(1x)π1]

where C0 and C1 are the official exchange rates between the currency in which the securities are denominated and sterling at the time of purchase and sale, respectively; F0 and F1 are the official exchange rates between the currency in which the borrowing is denominated and sterling at the time of purchase and sale, respectively. The conclusions regarding changes in the premium are the same as when the currencies are matched, but, in this case, a change in either of the two official exchange rates can alter the sign of the overall return.

The income return on currency-financed investment is

irπ=C1YC0(1+π0)

where Y is the annual dividend yield on the securities. The income return, assuming a back-to-back loan, is

irβ=C1(Yra)(1+π1)C0+rUK

where ra is the servicing cost of the overseas loan and rUK is the return on the deposit in the United Kingdom. Of the variables in this expression, C1, π1, and Y are expected future values; ra and rUK are known or expected, depending upon the length of the loan and the corresponding deposit.

19

The return on direct investment collapses to

r=C1(P1+d)C0P1(1+π0)1

Where P0 denotes the initial foreign currency outlay, d denotes the accrued profits, and P1 denotes any proceeds from the liquidation or sale of the investment.

20

The usual argument in favor of lighter controls on direct investment outflows is that the investing companies retain control over the investment, trading, financing, and profit distribution policies of their overseas subsidiaries and branches, and these policies can still be influenced by the authorities of the capital-exporting countries in a way that is impossible when minority shareholdings are purchased in overseas firms. In addition, it is felt, rightly or wrongly, that the return on direct investment is both quicker and higher, and thus more useful for the balances of payments, than that on portfolio investment.

21

See Cairncross (1973) and various papers in Swoboda (1976).

22

See Snider (1964) for an appraisal of the efficiency of the U.S. Interest Equalization Tax.

23

Such deterrents may be of a fiscal, legal, or political nature.

24

The increase in return will be equal to the difference between equation (1) in footnote 11 and equation (2) in footnote 12.

26

The reverse of the surrender policy might be an arrangement requiring investors to acquire only part of the foreign currency for purchases of securities at the premium rate and enabling them to acquire the balance at the official exchange rate while permitting the whole of the proceeds of sales of securities to be transmitted through the premium currency market. Such a policy would, at first sight, appear appropriate if the overall balance of payments position improved sufficiently to countenance a small net outflow in place of the small net inflow yielded by the present policy. The scheme would, however, be unworkable, since it would be profitable for investors to purchase foreign currency securities and immediately resell them so as to gain the premium on that part that had not borne the premium when purchased. This process would be repeated until, in a short time, the premium disappeared and the outflow through the official market would be the same as if the exchange restrictions had been lifted entirely.

27

Lanyi (1975) has provided examples of linkages between the financial and official markets in the symmetric two-tier system.

28

See Richard Caves, “The Welfare Economics of Controls on Capital Movements,” in Swoboda (1976), pp. 31-46.

29

See “The U.K. Exchange Control: A Short History,” Bank of England, Quarterly Bulletin, Vol. 7 (September 1967), pp. 245-60.

30

For the basic analysis of the dual exchange market, see Fleming (1971 and 1974) and Barattieri and Ragazzi (1971).

IMF Staff papers: Volume 24 No. 3
Author: International Monetary Fund. Research Dept.