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HK: Capital inflows could 'wreak havoc'

Thursday 21 April 2011 - by Will Henley

Hong Kong has issued a stark warning on capital inflows, saying that without their proper management policymakers risk "wreaking havoc".

Monetary Authority deputy chief executive Peter Pang, speaking earlier today, said "abundant liquidity" in Asia was driving up asset prices, fuelling credit growth and leading to exchange rate appreciation.

"We cannot afford to be complacent, as we are now confronted with a new round of challenges in uncharted waters," Pang cautioned, urging international action to ward off the potential threat to global stability.

"If not properly managed, the build-up of excesses amid strong capital inflows and the subsequent bursting of the bubbles could be detrimental to financial stability, wreaking havoc on economic growth."

The remarks follow meetings last week by G20 finance ministers and the International Monetary Fund's policy steering committee at which capital controls proved a divisive issue.

The deputy chief executive himself said there was "growing recognition" that there could be "no one-size-fits-all approach" to capital flows management.

Pang said that exchange rate appreciation and monetary tightening could theoretically cool overheating economies, but "in practice" may attract even more speculative inflows and interest rate arbitrage.

He outlined three main areas for action, including regulatory reforms at the G20 and Financial Stability Board and continuing financial safety nets such as IMF lending.

National authorities should also strengthen local capacity to absorb inflows though bonds and other instruments, he said.

Pang continued: "Given the global nature of fund flows and the increasing interconnectedness of the global financial system, it is obvious that national policies alone are insufficient to tackle the challenges.

"We need greater international and regional cooperation to manage risks posed by volatile capital flows to global financial stability."

Earlier this month, the IMF reversed its longstanding opposition to capital controls, proposing some "rules of the road" for countries.

The Washington-based body recommended nine key elements that should be considered to control the inflows affecting emerging markets.

It advises that capital controls should be used when a country's currency is not overvalued, the economy is overheating and there is no possibility to tighten fiscal policy.

However, Brazilian finance minister Guido Mantega warned at the weekend that his country would reject any attempt to introduce rules for the use of controls.

"We oppose any guidelines, frameworks or codes of conduct that attempt to constrain, directly or indirectly, policy responses of countries facing surges in volatile capital inflows," Mantega said.

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