A central prediction of open economy models with a pecuniary externality due to a collateral constraint is that the unregulated economy overborrows relative to what occurs under optimal policy. A maintained assumption in this literature is that households borrow directly from foreign lenders....

This paper studies optimal capital-control and bank-reserve remuneration policy in an open economy with a banking channel and a collateral constraint that limits household debt by a fraction of income. It finds that the unregulated economy borrows too little relative to what is optimal...