There has been an avalanche of analysis in the past few days about the latest news from the US bond market: Real interest rates at the short end of the market have turned negative. This is a clear indication that the US Federal Reserve is operating an astonishingly loose monetary policy in a bid to fight the recession in the world’s largest economy.

The effects of this loose monetary policy are being felt in many emerging nations, where new asset bubbles have been spotted and currencies are appreciating. Brazil has taken the unusual step of imposing a tax on capital inflows and one on local companies raising foreign money through the issue of American depository receipts.

Illustration: Jayachandran / Mint

There is equally compelling evidence that companies with global balance sheets have any number of ways to step around capital controls while countries that impose such controls tend to suffer in terms of reputation risk. It is in this context that an intriguing suggestion by economist Arvind Subramanian caught our attention.

“Brazil recently botched its attempt at such controls because the policy action was half-hearted, anxious about the reaction of markets. One possibility could be coordinated restrictions on capital flows action by a set of emerging markets that could be blessed by G-20. No doubt this would be risky, perhaps even counterproductive, but in these unusual times, no policy option should be off limits, at least for discussion," wrote Subramanian in a post published by The Baseline Scenario, a blog run by former International Monetary Fund chief economist Simon Johnson.

There is already global coordination going on to manage global issues such as the economic crisis and climate change. Subramanian says since the cause of the increased flows is common to all countries, namely Fed policy, it will be a policy challenge not just for individual countries, but also for emerging markets as a group.

Though the minor appreciation in the rupee pales in comparison with the almost 30% rise in the value of the Brazilian real, the Reserve Bank of India (RBI), too, will have to start grappling with how it plans to manage the flood of dollars coming into the economy (almost $15 billion in the stock market alone, according to the last count).

A lot of attention will be on what RBI governor D. Subbarao says and does about this problem.

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