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Managing International Capital Flows after the Global Financial Crisis

Managing International Capital Flows after the Global Financial Crisis. Chin-Long Yang Deputy Governor Central Bank of the Republic of China ( Taiwan ) June 29, 2010. Outline. Financial Account Liberalization International Capital Flows and Financial Crisis

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Managing International Capital Flows after the Global Financial Crisis

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  1. Managing International Capital Flows after the Global Financial Crisis Chin-Long Yang Deputy Governor Central Bank of the Republic of China ( Taiwan ) June 29, 2010

  2. Outline • Financial Account Liberalization • International Capital Flows and Financial Crisis • Macro-prudential Policy for Central Banks • Capital Controls: No Longer Unthinkable • Taiwan’s Experience in Managing Capital Flows • Regional Financial Cooperation • Conclusion: Reforming the International Financial System

  3. Financial Account Liberalization (1) • Liberalization of financial account accompanied by increase in FX transactions • 2007 BIS Triennial Survey Global foreign exchange turnover: US$750 trillion • Global trade volume: US$30 trillion • Exchange rate movements can no longer be explained by trade or economic fundamentals • Exchange rates mainly determined by short-term capital flows

  4. Financial Account Liberalization (2) • Short-term capital flows: • Highly volatile • Heavily influenced by exchange rate expectations and interest rate differentials • Amplify market volatility • Undermine financial stability and economic development

  5. International Capital Flows and Financial Crisis (1) • Surging capital inflows: 1. Overheat the economy 2. Speed up growth of bank credit and money supply 3. Create speculative bubbles in stock markets and the real estate sector • Once the bubbles burst, sudden financial reversals result in a breakdown in the financial system.

  6. International Capital Flows and Financial Crisis (2) • 1997~1998 Asian Financial Crisis: Contagion effect from Thailand to South Korea • 2008~2009 Global Financial Crisis: Collapses of Bear Stearns and Lehman Brothers sent shock waves across regions. • European Sovereign Debt Crisis: Capital flight from Europe to the U.S. and Asia, casting a dark shadow over the outlook of global economic growth

  7. Macro-prudential Policy for Central Banks (1) • Financial stability as important as price stability • Overlooked for years by advanced countries • Massive capital flows cause financial and economic instability • Macro-prudential policy can mitigate systemic risks • China, Hong Kong, South Korea, Singapore, and Taiwan have all announced a variety of targeted prudential measures to curb real estate speculation.

  8. Macro-prudential Policy for Central Banks (2) • Implementation of monetary policy: 1. Open market operations 2. Required reserve ratios 3. Rediscount policy 4. Selective credit management • Greater exchange rate flexibility: 1. Nominal exchange rate should remain flexible. 2. Real exchange rate should reflect economic fundamentals.

  9. Macro-prudential Policy for Central Banks (3) • Setting up an effective monitoring system for foreign exchange transactions • Maintaining an appropriate level of foreign exchange reserves • Having the authority to conduct financial examinations

  10. Capital Controls: No Longer Unthinkable (1) • IMF managing director Strauss-Kahn “The IMF is not in principle opposed to emerging markets using capital controls.” • UNCTAD “… different types of capital flows can be limited effectively by a variety of instruments.”

  11. Capital Controls: No Longer Unthinkable (2) • ADB President Kuroda “Some sort of managed flow with regional cooperation would be the best for Asia.” • Nobel laureate Joseph Stiglitz A country does not “build robust growth based on easy money” and “It's worth it for the money to come in only if it improves the productivity of the economy.”

  12. Capital Controls: No Longer Unthinkable (3) • 10/20/2009 Brazil: 2% tax on foreign investment in local bonds and stocks • 6/13/2010 South Korea: ceilings on foreign exchange derivatives positions Domestic banks: 50% of capital Foreign bank branches: 250% of capital

  13. Capital Controls: No Longer Unthinkable (4) • 6/16/2010 Indonesia: 1. Abolish banks’ On Balance Sheet net open positions (NOPs) limit of maximum 20% of capital, maintain Overall NOPs at 20% of capital 2. Widen the overnight inter-bank rate corridor 3. Impose a minimum one-month holding period for Bank Indonesia Certificates (SBI)

  14. Taiwan’s Experience in Managing Capital Flows (1) • Price and Financial Stability: Taiwan’s Central Bank Act • Article 2 Four operational objectives: • Promote financial stability • Guide sound banking operations • Maintain the stability of internal and external value of the currency • Foster economic development, within the scope of the above objectives

  15. Taiwan’s Experience in Managing Capital Flows (2) • Articles 19 to 31 list a variety of monetary policy instruments, including targeted prudential measures listed in Articles 28, 29, and 31. • Article 34 authorizes the CBC to maintain an orderly foreign exchange market. • Article 38 authorizes the CBC to conduct target financial examinations. • These instruments are essential for the CBC to maintain financial stability.

  16. Taiwan’s Experience in Managing Capital Flows (3) • Capital Flows Management • Taiwan’s stock market: 30% foreign ownership • Total FINIs: over 10,000 • Active FINIs: around 6,000 • Around 20 are responsible for over 40% of all FX transactions by FINIs • FINIs FX trading frequently disrupts Taiwan’s FX market

  17. Taiwan’s Experience in Managing Capital Flows (4) • FINIs more interested in currency speculation than securities investment? • CBC measures to curb FINIs currency speculation: 1) Foreign investors urged to deploy funds in a manner consistent with the declared purpose of securities investment 2) A reporting system to track large FX transactions and monitor international capital flows

  18. Regional Financial Cooperation Governor Perng’s Viewpoints (1) • In a speech to the 2010 ADB annual meeting our governor Mr. Perng pointed out: “Besides efforts by individual countries, it is even more important to elevate the issue of managing international capital flows to the regional level.” “If Asian countries can take concerted and coordinated actions, it will help promote regional financial stability.”

  19. Regional Financial Cooperation Governor Perng’s Viewpoints (2) • On financial support facility: 1. Multilateral swap arrangement across Asia with ADB as intermediary is best way forward. 2. Loan arrangements between ADB and members with high foreign exchange reserves as additional source of funding

  20. Regional Financial Cooperation Governor Perng’s Viewpoints (3) • On regional exchange rate coordination mechanism: 1. Stable exchange rates lower transaction costs, reduce uncertainty, and boost intra-regional trade and investment. 2. Suggestion to set up formal regional exchange-rate coordination mechanism so stable currency relationships can be established

  21. Conclusion: Reforming the International Financial System (1) • In addition to managing international capital flows we should: 1. Overhaul international financial regulatory and surveillance frameworks 2. Combine micro- and macro-prudential policies effectively 3. Reform the international monetary system

  22. Conclusion: Reforming the International Financial System (2) • G20 Toronto Summit Declaration released on June 27, 2010 also: 1. Outlined the steps to reform and strengthen financial systems 2. Stated G20 have already strengthened the global financial system by • fortifying prudential oversight, • improving risk management, • promoting transparency, and • reinforcing international cooperation

  23. Conclusion: Reforming the International Financial System (3) • Outlined the 4 Pillars for reform： 4) transparent international assessment and peer review • stronger regulatory framework based on the work undertaken by the Basel Committee on Banking Supervision to build a new global regime for bank capital and liquidity 2) more effective supervision that includes new and stronger rules that are complemented with more effective oversight and supervision 3) designing and implementing a system in which all financial institutions can be restructured or resolved in crisis without tax payers’ money

  24. Conclusion: Reforming the International Financial System (4) • Moreover, the G20 are committed to 1. Strengthening the legitimacy, credibility, and effectiveness of the IFIs, 2. Ensuring the ratification of the 2008 IMF Quota and Voice Reforms and expansion of the New Arrangements to Borrow, and 3. Preparing policy options to strengthen global financial safety nets. • The goal is to build a more stable and resilient international monetary system.

  25. Conclusion: Reforming the International Financial System (5) • Working together towards financial stability & sustainable economic growth

  26. Thank You

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