These capital flows—a significant portion of which are non-resident activities—are more sensitive to global financial conditions which have been dictated largely by monetary policy stance of AEs and global investors’ sentiment rather than textbook-determinants like macroeconomic conditions in EMs and interest rate differentials. Moreover, due to the large foreign-exchange activities by non-residents relative to the size of domestic foreign exchange markets and increases in derivatives and algorithmic foreign exchange trading activities, exchange rate could at times act as an amplifier as opposed to a stabilizer of shocks and capital flows, especially in EMs with strong external positions that are considered as safe haven like Thailand. While capital flows in and out of EMs might be small relative to global financial activities, they could have real and significant impacts on the EM economies through the exchange rate channel. Concerning volatile exchange rate movements that could undermine financial stability, capital flows could affect EMs’ monetary policy stance. For example, in the low-for-long interest rate environment, EMs may need to follow AEs in delaying or reversing normalization of monetary policy to avoid appreciation of their currencies. Because of spillovers, monetary policy of EMs could be distracted from their core domestic policy mandates. The delayed normalization in the low-for-long or negative-for-long interest rate environment further exacerbates financial stability risks. Debts—both household and corporate— are now reaching historic highs. Emerging nations, often with nonbank financial activities outside the regulatory perimeter, are more susceptible to risk buildups. Financial spillovers need to be addressed at multiple levels.

The drift towards bilateral- and trade-focused international economic policies which bypass existing channels of trade conflict resolution severely undermines global governance of international trade. On their own, EMs have little bargaining power, and engaging in bilateral relationships with large countries could result in trade distortions and uncertainties that lead to inefficient allocation of resources. In addition to the direct impact on trade, this bilateral- and trade-focused thinking could lead to another serious implication, especially from the perspective of macroeconomists who are well-represented in this room: the distortion of macroeconomic policy framework. The global imbalance analysis illustrates this issue nicely. The existing framework that was developed by the IFIs prior to the GFC and was adopted internationally has been pivotal in the way we made policies to address global imbalances in the past. I have talked earlier about how the current framework based on current account balance alone needs to progress with the changing environment, the excess liquidity in the global financial system, and take a broader view that includes capital flows. I am afraid that the current geopolitical environment will not allow us to progress forward in our thinking. Even the existing current-account based framework of global imbalances is being challenged by the bilateral worldview that focuses on bilateral trade. A currency intervention assessment framework that focuses narrowly on current account and bilateral trade balances and disregards other types of fund flows like portfolio flows is an example of thinking that distracts us from macroeconomic reasoning.