BOFIT Discussion Papers, Institute for Economies in Transition, Bank of Finland
Managing capital flows in Estonia and Latvia
Abstract: The three Baltic countries have been able to combine,
Estonia since 1992 and Latvia and Lithuania since 1994, (1) a fixed
exchange rate,(2) liberalisation of the capital account before having a
well-functioning and fully supervised financial system, and (3) very large
current account deficits. At the same time they have gone through deep
structural and institutional change, which has been even faster than in
several other transition economies. How have they been able to manage such
a combination of characteristics that would usually be regarded
inconsistent? The answer is not in clever management or control of
financial markets combined with sound fundamentals. Rather, the Baltic
countries have lacked several such markets that might be sources of
instability. There are hardly any inter-bank markets. Public debt is absent
or relatively very small. After the boomlet of 1997, the Baltic stock
exchanges have generally hibernated. Banking crises have been recurrent.
Not only are these economies extremely small, their degree of monetisation
is very low. There are very few assets and markets for speculative capital
flows. Partially, this reflects sound fundamentals, but mostly it is an
unintended consequence of policy decisions. One cannot expect the
experience to be easily repeated in other countries.
Keywords: the Baltic countries; capital flows and controls; financial crises; currency boards; (follow links to similar papers)
68 pages, December 23, 2001
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