choongsoo kim : coping with volatile capital flows – korea ’ s experience and the challenges ahead speech by mr choongsoo kim, governor of the bank of korea, at the european union chamber of commerce in korea ( eucck ) annual seminar, seoul, 27 october 2010. * * * greetings it is a great pleasure for me to be here with you today at this “ annual seminar of the eucck ( european union chamber of commerce in korea ) ”. this is all the more so as your organization contributes so greatly to the growth of bilateral business activities between the eu and korea. korea and europe will get much closer to each other as the korea - eu fta takes effect from july of next year. with experiences of living in europe for nearly four years on two different occasions, i ’ d love to enjoy high - quality european wine at a cheaper price thanks to the korea - eu fta. let me take this opportunity to express my very deep thanks to all seminar participants, and especially to president jean - marie hurtiger, for this invitation to address you. today, i wish to share with you korea ’ s experiences with volatile capital flows and our related policy responses over the last decade. i will then mention some of the policy challenges that lie ahead of us. as all of you are aware, last weekend, we were able to come up with an agreement on currency issues as well as other critical global issues at the g20 finance ministers and central bank governors meeting at gyeongju. i find it a win - win result for all parties concerned. in particular, i ’ d like to remind you that the communique includes the following statement, “ these actions will help mitigate the risk of excessive volatility in capital flows facing some emerging countries ”. such a statement has a significant policy implication for a country like korea, whose day - to - day currency fluctuations are much higher than those of other g20 member economies. stylized facts on capital flows and the impossible trinity i ’ d like to begin my speech by presenting some stylized facts on capital flows and a few words about the impossible trinity. korea, like most other emerging market countries, has in recent years become rapidly integrated into international financial markets, through capital account liberalization and market opening. to give an idea of the scale of this movement of capital in the world economy, cross - border capital flows to emerging markets increased almost eight - fold between 1994 and 2007. 1 the case for

the modification of capital standards that are more granular in addressing different types of risk. supervisory approaches globally have also evolved to place a greater emphasis on sound risk management and early interventions to address emerging risks before they become major problems. there is also more emphasis being placed on the expectations of financial institutions to play a greater role in ensuring that financial products offered to customers and investors are suitable given their needs and financial circumstances, and that they have a good understanding of risks assumed with the products. bank negara malaysia's approach to the financial regulation and supervision has similarly evolved to achieve a more robust regime that emphasises three key dimensions : first, creating a strong risk management culture that overlays the operations of banking institutions ; second, facilitating market - led adjustments that will allow the industry to evolve in response to market and technological ; and third, ensuring mutually consistent prudential policies across the financial sector. underpinning this approach has been a more pronounced shift towards principle - based regulations. increasingly, regulations have focused less on prescriptive rules, and more on establishing broad parameters for sound financial and business practices that leave substantial flexibility for banks to apply the principles in the manner most appropriate to their specific circumstances. of importance, has been the creation of appropriate incentives within the system to counteract potential market distortions that could undermine financial stability. the differentiated regulatory framework under which stronger banking institutions would have substantially greater operating flexibility and a lower level of supervisory intervention, for example, provides a powerful competitive incentive for the adoption of sound risk management practices. while enhanced bank regulatory and supervisory functions have had a direct and significant impact on improved risk management by banking institutions, the primary responsibility for sound institutional risk management will continue to rest with the boards and senior management of banks. it is the boards, and not supervisors, that are principally responsible for the performance of banks and for their financial strength. boards set the tone for their institutions'risk taking activities, and provide effective oversight to ensure that their decisions are followed. of paramount importance is the need for boards to ensure that risks are estimated in a consistent and timely manner, and escalated to the board with attention being focussed on the management of the emerging risks. today, boards face additional challenges of discharging these responsibilities in an environment that is rapidly changing and highly competitive. achieving effective boards and strengthening the foundations of sound corporate governance have therefore become a priority in the reform agenda for many countries in the recent period. the implementation of basel ii, new financial reporting standards and principles -