New study highlights dangers of capital inflows

New study highlights dangers of capital inflows
AFP
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First Published: Wed, Feb 04 2009. 12 52 PM IST
Updated: Wed, Feb 04 2009. 12 52 PM IST
Geneva: “Excessive haste” in opening up capital transfers and over-exposure to foreign currency inflows can compromise financial stability in emerging economies, a study by a global financial watchdog said.
The report for the Committee on the Global Financial System, set up by the G10 group of central bankers, said that some of the risks it identified had materialised during the recent financial crisis.
“This crisis therefore puts renewed emphasis on the need to strengthen local financial systems,” it said, underlining the vulnerability of countries with “open” capital transfers to financial shocks originating from abroad.
Headed by Reserve Bank of India Deputy Governor Rakesh Mohan, the G10 working group underlined that there was clear evidence that the flow of capital between nations was beneficial, especially with direct investments.
But it cautioned that the surge to $1.9 trillion in capital inflows in 2007 followed by a reversal in foreign investment in emerging market assets a year later also exposed financial risks.
“There is no doubt that closer international financial integration creates challenges for monetary policy,” the report said, cautioning that long-term interest rates were increasingly influenced by global rather than local influences.
It pinpointed the “problematic” nature of large-scale capital flows for rapidly-growing economies that have substantial current account surpluses.
It also underlined the risks associated with “reliance on short term, foreign currency denominated inflows,” and the impact of large-scale foreign currency inflows may have on domestic liquidity.
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First Published: Wed, Feb 04 2009. 12 52 PM IST