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CAPITAL MOBILITY AND STABILIZATION POLICY UNDER FIXED AND FLEXIBLE EXCHANGE RATES*
R. A. MUNDELL
THE world is still a closed economy, but its regions and countriesare becoming
increasingly open. The trend, which has been manifested in both freer movement of goods and increased mobility of capital, has been stimulated by the dismantling of trade and exchange controls in Europe, the gradual erosion of the real burden of tariff protection, and the stability, unparalleled since 1914, of the exchange rates. The international economic climate has changed inthe direction of financial integration' and this has important implications for economic policy. My paper concerns the theoretical and practical implications of the increased mobility of capital. In order to present my conclusions in the simplest possible way, and to bring the implications for policy into sharpest relief, I assume the extreme degree of mobility that prevails when a country cannotmaintain an interest rate different from the general level prevailing abroad. This assumption will overstate the case but it has the merit of posing a stereotype towards which international financial relations seem to be heading. At the same time it might be argued that the assumption is not far from the truth in those financial centres, of which Zurich, Amsterdam, and Brussels may be taken asexamples, where the authorities already recognize their lessening ability to dominate money market conditions and insulate them from foreign influences. It should also have a high degree of relevance to a country like Canada whose financial markets are dominated to a great degree by the vast New York market.
I. METHOD OF ANALYSIS
The assumption of perfect capital mobility can be taken to mean thatall securities in the system are perfect substitutes. Since different currencies are involved this implies that existing exchange rates are expected to persist indefinitely (even when the exchange rate is not pegged) and that spot and
*This paper was presented at the annual meeting of the Canadian Political Science Association in Quebec on June 6, 1963. It was written while the author was a...