An empirical analysis of the “impossible trinity”

A number of policy makers are faced with the dilemma of the three components — free capital mobility, exchange rate stability, and independent monetary policy. The macroeconomic models to deal with these conflicting problems were elaborated in the early 1960s by Robert Mundell (1963) and Marcus J. Fleming (1962). In the Mundell—Fleming conceptual framework, these three policy objectives cannot be achieved simultaneously. For instance, if a country deems it necessary to liberalise its capital market and stabilise the exchange rate, then monetary policy becomes useless to influence its economy. Alternatively, if a country desires to maintain free capital movements and pursue an independent monetary policy, it has to forego exchange rate stability. These situations where only two of three components are feasible are known as the so-called “impossible trinity.” ¹