Which monetary response is commonly used to stem capital outflows?

Raising interest rates is a commonly employed monetary response to mitigate capital outflows. This approach works by making domestic investments more attractive compared to foreign ones. Higher interest rates generally lead to increased returns for investors in fixed-income instruments like bonds, thereby encouraging both domestic and foreign investment in those assets. As investors seek higher yields, the demand for the domestic currency increases, which can help stabilize or even strengthen it against other currencies.

Additionally, higher interest rates can create a perception of a strong economic environment, further boosting investor confidence and investment inflows. This creates a feedback loop where the increased demand for the local currency, driven by higher interest rates, helps to counteract the pressures of capital outflows.

In contrast, lowering taxes, decreasing interest rates, and implementing new tariffs do not directly address the desire for higher yields that drive capital outflows. Lowering interest rates can lead to a diminished incentive for saving and investing in a domestic currency, potentially exacerbating capital outflows instead of curbing them.