Capital controls

Published: November 30 2009 09:26 | Last updated: November 30 2009 19:38

In recent weeks and months, governments around the world were openly experimenting with capital controls to stem tides of
speculative money. Where Brazil led, taxing foreign purchases of debt and equity, Taiwan and China followed, excluding foreigners
from some local-currency deposits. India, Indonesia, South Korea and Thailand toyed with measures. Then came Dubai. Flows
slammed into reverse. Every emerging market currency bar the Argentine peso weakened against the dollar.
Suddenly, the control freaks dont look so clever. There was no doubt that emerging markets had been on the boil: according to EPFR
data, weekly net inflows to emerging market equity funds had been running at between 2.6 times and 4.6 times higher than flows into
developed funds since the beginning of October. But the wave of risk revulsion, post-Dubai, should
have been a reminder that todays inflows can become tomorrows outflows.
Moves to cool hot money were, and are, understandable. In addition to the upward pressure on local
currencies, threatening export-led recoveries, there is the risk that other peoples money inflates local
bubbles in stocks and property. And as a simple tax-raising measure, shifting the burden on to
foreigners will almost always play well with the electorate. But if emerging markets really are
leading a global recovery, perhaps for the first time, then some of the exchange rate appreciation
must be structural. As Ashmore Investment Management argues, the best way to achieve an orderly
realignment of currencies is surely through liberalising capital accounts, not arbitrary controls.
And when it comes to asset prices, opportunistic foreign capital is too often scapegoated: in China,
for example, shrinkage in household bank deposits accelerated from Rmb9bn in July to Rmb251bn
in October, suggesting domestic investors are not shy in pitching in. After the Dubai shock subsides,
the world will probably continue to feel its way towards a weaker dollar. Policymakers should not
fight it.