, a rise in the expected excess returns implies a lower demand for money. in the course of the last 20 years, the globalisation of financial markets owing to the reduction of transaction costs and the enhancement of information flows has increased the share of global wealth invested outside investors ’ home jurisdictions. the models of tobin and markowitz have become, therefore, much more complicated when extending the analysis to the global environment. portfolio theory suggested that assets should be considered imperfect substitutes for each other, with the differences in their expected yields reflecting their marginal risks regardless of the economy being open or closed. however, the representative agent model is no longer applicable in the case of an open economy, as the presence of international capital flows requires either asymmetric information or heterogeneous belief among various agents. this makes the theoretical and empirical efforts to search for policy solutions a very complicated business. in an open economy setting, for given risks, a rise in expected excess returns does not necessarily imply a lower demand for money. domestic assets may be purchased by foreign investors generating net portfolio inflows, which would raise domestic money growth. it is also true, however, that money and credit growth could trigger international portfolio flows. specifically, two mechanisms can be identified through which liquidity affects international portfolio flows. first, strong money and credit growth in one country may induce capital outflows to foreign asset markets, thereby exerting upward pressure on prices for financial and real assets abroad. second : at the same time, ample liquidity conditions in the domestic economy may fuel strong economic growth and be accompanied by higher asset prices, thereby inducing foreign capital inflows. the current magnitude of the stock of global liquidity and global savings is such that the asset prices and money growth of large economic areas, including the euro area, can be affected by them. in the same vein, large net capital inflows, as well as their sudden reversals, may also have important real consequences for large economies as they can systematically influence domestic monetary developments with potential implications for monetary policy. evidence from the euro area shows that international portfolio flows have played an increasingly important role as a driving force for monetary dynamics. as you are aware, the ecb ’ s monetary policy strategy attributes a prominent role to the analysis of monetary aggregates and their counterparts in the assessment of risks to price stability over the medium to longer term. the growing size of international capital flows associated with globalisation of financial markets has made the analysis of monetary aggregates, for the

##ised banking system is less likely to face funding issues during these downturns and we would anticipate a much more orthodox response to monetary policy in the economy. bank capital requirements also can have a more direct role in responding to these economic fluctuations through a counter - cyclical buffer. having a well - capitalised banking system in new zealand, given we are a net importer of capital, also means that our banks – and the wider economy - will be able to continue to access global funding markets even in times of financial stress. of course, we are listening to what others are saying about our proposals. we ’ ve been consulting with the public and many of our stakeholders to fully understand the impacts they believe an increase to capital requirements will have. we ’ ve commissioned three internationally recognised experts to review the proposals, which have been published on our website. all of these views have been captured and are being considered, and if we ’ ve got it wrong, we ’ ll make adjustments to reflect that because it ’ s important that we get this right. the international dimension we set our capital requirements according to the new zealand specific risk environment, but we also acknowledge how we ‘ stack up ’ internationally, and why we may need a more capitalised banking system than those in other countries. gambacorta and shin ( 2018 ). we have previously compared our proposed capital levels with basel committee estimates and standard and poor ’ s ( s & p ) methodology, placing our proposals around the top quartile. 8 since september 2019, s & p ’ s assessment of economic risks in new zealand has improved. they viewed that the moderation of house prices since 2017 has reduced the likelihood of a severe house price correction and with it, the potential losses banks may face in such a scenario – that ’ s good news. our financial stability risks have reduced due to a slowing housing market, and our lvr policy has contributed to that. the improved country rating means that the new zealand banks ’ capital positions using s & p ’ s risk - adjusted capital ( rac ) ratio have improved. 9 our capital review proposals would mean that the banks ’ s & p rac ratios would increase further still, towards being among the best capitalised banks across a range of peer countries ( figure 11 ). figure 11 : s & p rac ratio – comparison of the four largest new zealand banks to large banks in peer countries ( october 2019 ) s & p rac ratio ( % ) range asset - weighted