Woodford (2003) and others discuss the link between that fundamental analysis and the proposition that monetary policy should aim to stabilise inflation and output. 2  BIS Review 36/2005  That is why recent academic analysis portrays monetary policy as a “policy reaction function” which describes the reaction of the official short-term interest rate to any possible configuration of economic shocks that might arise in future. For a given model of frictions it is possible to derive the appropriate policy reaction function which most advances the objectives of the policy-makers. Such a reaction function is a state-contingent monetary policy rule. It describes policy in every situation. There are no exceptions and, by construction, the rule does not change over time. Monetary policy rules have become a major area of research.8 Perhaps the most famous is the so-called Taylor rule, named after John Taylor who has just returned to Stanford after serving as Under Secretary at the US Treasury. The Taylor rule implies that interest rates should rise if inflation is above its target and output is above its trend level, and fall when the converse is true. The path along which inflation should return to its desirable long-run level will therefore vary according to the state of the economy. A key motivation for the study of monetary policy rules was the insight that if economic agents base their decisions on expectations of the future then the way monetary policy is expected to be conducted in the future affects economic outcomes today.

Given scarce labor and increasing wages, productions in Thailand need to shift from labor intensive to a more capital intensive industries and thus more import of capital goods and machinery are made cheaper during this investment up-cycle. Third, on capital flows management. In October 2012, the Bank of Thailand launched the Capital Account Liberalisation Master Plan. This Master Plan aims to facilitate Thai companies to diversify their investments abroad, especially in neighboring countries. This would encourage private companies to operate their businesses more efficiently by expanding their markets and production bases, which in turn will help strengthen their competitiveness. Facilitating outflows also helps capital flows to be more balanced. The Bank of Thailand, for instance, has removed the limit for Thai individuals’ outward direct investment, raised the limit per investor, and eased regulations for transfers of foreign currencies to facilitate investment in foreign securities. Recent surge of capital inflows to the region is likely to continue as long as advanced countries continue their extra-loose monetary policies and as long as the prospect of this region remains much more positive than advanced economies. There is no one-size-fits-all measure to deal with impact of short term capital inflows on the economy. The Bank of Thailand thus utilizes policy combinations, namely: allowing exchange rate adjustment as a first buffer; liberalising outward investments by residents; exercising exchange rate intervention to deal with excessive movements; and should circumstances deem necessary, the Bank of Thailand is prepared to consider appropriate measures in order to prevent serious impact on the economy.