Full Report - Subregional Office for East and North-East Asia - escap

ECONOMIC AND SOCIAL SURVEY OF ASIA AND THE PACIFIC 2013
Therefore, capital inflows are not costless; large
capital flows can make macroeconomic management
more difficult and the financial sector fragile. As
the Asian crisis has amply demonstrated, even
countries at a higher level of development (often
referred to as emerging market economies) found
it difficult to handle the uncertainty and volatility of
short-term capital flows.
The same experience is being repeated during the
ongoing economic crisis in Europe and the United
States. Private capital flows to emerging economies
rebounded from their short-lived slump in the last
quarter of 2008 and early 2009. Net private inflows
to emerging economies are estimated to have been
$825 billion in 2010, up from $581 billion in 2009.
The prospects of relatively slow growth and low
interest rates in advanced countries, rapid growth and
higher interest rates in emerging markets and reduced
risk aversion suggest that private capital flows may
continue to surge. This is putting upward pressure on
exchange rates, denting export competitiveness and
threatening to stifle their economic recoveries. The
surge is also forcing reserve accumulation, which, if
left “unsterilized”, adds to inflationary pressures and
could trigger asset bubbles. Additionally, persistent
vulnerabilities in advanced countries could trigger a
new shock (for example, much higher policy rates,
or even a recession) and transform the feast of
capital flows into a famine, with serious destabilizing
effects for receiving countries.
In response, a number of countries, including Brazil,
Indonesia, the Republic of Korea and Thailand,
have introduced defensive measures against capital
flows. India and the Republic of Korea may tighten
their controls even further, while central banks
in emerging market economies are very worried
about “hot-money” flows. Similarly, during the
1990s, policymakers in Chile, China, Colombia,
India, Malaysia, Singapore and Taiwan Province of
China used capital account management techniques
to achieve crucial macroeconomic objectives.
These included: preventing maturity and locational
mismatches; attracting desired foreign investment;
reducing overall financial fragility, currency risk
and speculative pressures; insulating against the
contagion effects of financial crises; and enhancing
economic and social policy space.
In support of their argument, critics of full capital
account convertibility used the evidence of successful
economies, such as Malaysia, the Republic of Korea
and Taiwan Province of China, which had capital
controls in place during the periods of their rapid
transformation. In fact, it is now widely accepted
that China, India and Viet Nam were able to
avoid the contagion of the Asian financial crisis
due to controls on their capital account (Islam
and Chowdhury, 2000). Most observers believe
that Malaysia’s belated action to restrict capital
mobility was the right step that helped it ride over
the financial crisis of 1997-1998.
From a developmental perspective,
capital account openness should not
be viewed as
an all-or-nothing position
Capital flows management is a sovereign right of
a country under the IMF Articles of Agreement
(Article VI). Owing to increased risks arising from
volatile capital flows, IMF has recently designed
capital flows management techniques. It notes: 28
Rapid capital inflow surges or disruptive
outflows can create policy challenges.
Appropriate policy responses comprise a
range of measures, and involve both countries
that are recipients of capital flows and those
from which flows originate. For countries
that have to manage the macroeconomic
and financial stability risks associated with
inflow surges or disruptive outflows, a key
role needs to be played by macroeconomic
policies, including monetary, fiscal, and
exchange rate management, as well as by
sound financial supervision and regulation and
strong institutions. In certain circumstances,
capital flow management measures can be
useful. They should not, however, substitute
for warranted macroeconomic adjustment.
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