Currency controls invite arbitrage

Among the items of Departmental Lore handed down through the ages to me, a then recent migrant to the country and member of the Department, were the tales from New Zealand's dark ages of capital controls and import controls.

Prior to the reforms of the 1980s, you needed permission from the government to purchase foreign currency as capital controls were needed to maintain the fixed exchange rate. Import controls also protected the domestic car industry: you could not import a car from abroad, although there was an exception where those moving to New Zealand could bring their car with them.

Lore being lore the story below is almost certainly wrong in many respects. But, as a colleague once said, even if the facts are wrong, it's still a beautiful story. And so here is the story, handed down to me through the ages.

A member of the Department in the 1970s enjoyed taking many sabbaticals and academic visits abroad. Doing so allowed him access to foreign currency. Every time he could buy a car and bring it back to Christchurch with him, then sell it at a tidy profit: decent used cars here could sell for more than the new car price abroad.

I'm also told he was a pretty strong supporter of the tight economic controls of the time and had great admiration for even more rigid systems.

The Department, and the country, both have rather changed for the better.

Alex at Marginal Revolution reports on a current Venezuelan variant.

Flights out of Venezuela to anywhere are 100% sold out, months in advance. Yet many planes are flying half-empty. Why? The official exchange rate is 6.3 bolivars per dollar but the black market rate is more like 42 bolivars to the dollar. Few people are allowed to convert bolivars to dollars at the official rate but there is an exception for people with a valid airline ticket. As a result people with an airline ticket can convert bolivars to dollars at the official rate and then sell the dollars at the much higher black market rate. Reuters has the story:

“It is possible to travel abroad for free due to this exchange rate magic,” said local economist Angel Garcia Banchs. The profit is realized from an arbitrage process known locally as “el raspao,” or “the scrape.” Credit cards are used abroad to get a cash advance — rather than buying merchandise. The dollars are then carried back into Venezuela and sold on the black market for some seven times the original exchange rate. The large profit margin easily absorbs the cost of flights and accommodation for a trip. “I’ve been able to buy new clothes and give some cash to all my closest family members!” said one delighted Venezuelan lady, just back from a trip to Europe. …Some Venezuelans do not even bother leaving the country, but merely send their credit cards to friends overseas, who swipe the cards and send the cash back to Venezuela. “This is the reason many airlines are sending half-empty planes,” Ricardo Cusanno, head of a local tourism council, told Reuters, saying the government should cross-reference flight lists with those requesting foreign exchange to outwit the no-shows.

I'm curious why the airlines haven't adjusted by massively overbooking flights out of Venezuela.

Whenever you're imagining your favourite way of controlling the economy, give some thought as to how people who are more clever than you are might profit by your regulatory initiative, and whether it might undercut the reasons for your proposed control.