17 November 2014

This paper examines how Asian economies are dealing with shifting capital flows between safe and emerging market risk assets under the current ultra-loose monetary conditions.


Julia Leung

Academy Fellow (2014)


  • As the dollar is the dominant international currency and reserve currency, the supply of global liquidity has fluctuated in accordance with monetary and financial conditions in the United States.
  • Small but completely open Asian markets have been exposed to sharp upward pressures on domestic exchange rates, to credit and asset bubbles and to other financial market risks. These economies have coped with shifting capital flows between safe assets in major reserve currencies and risk assets in the currencies of emerging markets to achieve exchange rate, monetary and financial market stability.
  • As the scale and speed of cross-border flows become more intense, Asian authorities have been more ready to deploy a full suite of market intervention instruments to effectively restrict fund flow or credit growth. These include currency intervention, targeted capital controls and macroprudential tools such as caps on the loan-to-value ratio.
  • Asian economies have also been building up foreign reserves through currency intervention, though this is costly and inefficient, to ensure that they have a cushion when capital leaves the economy. 
  • It is undesirable that each market is left to its own devices to counter the prevailing ultra-loose global liquidity, or that markets feel the need to form their own regional blocs for mutual liquidity assistance. Such a strategy demonstrates a lack of coordination and collaboration between advanced economies and emerging economies at the global level.
  • The preservation of global financial stability amid volatile capital flows is the joint responsibility of those on the receiving end of the flows, e.g. Asia, and their suppliers, i.e. the major reserve currencies.
  • Both global and regional safety nets should be strengthened. Having identified the provision of dollar liquidity by the US Federal Reserve as the most important stabilizing factor in times of crisis, a permanent arrangement whereby the Fed has extended currency swap lines to five major central banks should be broadened to cover other markets globally.
  • In the longer term, there should be a move to a multipolar global monetary system and to encourage the supply of safe assets, including those denominated in renminbi.