Taxation on cross-border capital flows, foreign exchange reserves rescue and risk prevention

Abstract

Addressing cross-border capital flow risks and implementing crisis relief measures has become an urgent necessity in open and reformed international financial markets. This study presents a comprehensive exploration and validation of the role of cross-border capital flow taxes and foreign exchange reserves rescue in risk prevention. First, a two-period model has been developed to assess the expected net output of international capital under various scenarios, facilitating comparative analysis of the mitigation effects of cross-border capital flow taxes and foreign exchange reserves rescue on external risk shocks. The findings suggest that, in terms of risk prevention, a higher expected output from outflow taxes leads to a stronger response to risk shocks. However, the use of foreign exchange reserves requires balancing retention costs against rescue benefits. Overall, the effectiveness of foreign exchange reserves is weaker than that of outflow taxes, and the optimal approach is to use both measures simultaneously. Second, empirical evidence derived from a panel data model encompassing 90 countries worldwide confirms that the implementation of cross-border capital flow taxes and foreign exchange reserves rescue significantly contributes to alleviating economic and financial risks, with a particularly strong effect on financial risks. Moreover, the combined use of both measures proves to be more effective.