manuel sanchez : emerging economies in the face of financial bonanza remarks by mr manuel sanchez, deputy governor of the bank of mexico, at cemla ’ s ( center for latin american monetary studies ) ix meeting of monetary policy managers, cosponsored by cemla and the central bank of argentina, buenos aires, 23 may 2013. * * * it is an honor for me to address the monetary policy managers from the central banks that are members and invitees of the center for latin american monetary studies. i would like to thank the central bank of argentina and the cemla for the opportunity to participate in this conference, devoted to a discussion of the possible implications of the monetary policies of advanced nations for emerging markets. since the global financial crisis of 2007 – 2008, advanced economies have implemented a wide range of measures to counter the ensuing financial turbulence and its consequences for economic activity. among these actions, expansionary monetary policy has been both innovative and key to the management of domestic problems, and at the same time, has created challenges for emerging economies, both in terms of likely repercussions and the need to respond. in my remarks, i would like to address first, the possible effects of the monetary policies implemented by developed countries on emerging economies, manifested especially through a significant rise in capital inflows ; second, some concerns and risks associated with these larger foreign resources ; and third, the most important measures that the authorities of many developing nations can adopt to mitigate some of the vulnerabilities derived from capital flow surges. advanced economies and capital flows the global financial crisis led most central banks to relax their monetary policies considerably, which included unconventional strategies in some advanced countries. in particular, in the united states, the federal reserve cut its policy interest rate to near zero by the end of 2008, while it expanded liquidity facilities substantially. unlike the great depression of 1929 – 1933, which was characterized by bank runs in favor of cash, in the recent crisis, the public sought financial instruments backed by the government in an attempt to rid themselves of other assets suddenly perceived to be high risk. this time, the federal reserve acted in a timely way as lender of last resort, effectively controlling the financial panic. once the markets became calmer, some central banks of developed nations continued relaxing monetary policy in the aim of fueling the recovery of their economies. thus, in the united states, successive quantitative easing programs have been put into place, consisting of the acquisition of financial assets

and they also make it possible for investors to obtain higher yields and diversify their risks. notwithstanding these benefits, abrupt capital inflows, in particular capital inflows with short - term horizons, can trigger unintended effects. the key causes of concern are twofold. the first has to do with the possible generation of financial imbalances for families, firms and governments, in the form of excessive and unsustainable borrowing. this phenomenon can be accompanied by bubbles in financial asset prices, in the sense of prolonged deviations in these prices above those values that may be consistent with fundamentals. for example, in the united states, the real estate bubble both stemmed from and fueled the credit bubble, a combination that led to the global financial crisis. assets with prices that can be highly sensitive to capital inflows are, in general, of two kinds. first, greater foreign funding tends to cause local currencies to appreciate, making the exchange rate a possible early indicator of pressures. second, assets preferred by investors such as stocks, bonds and real estate may increase considerably in value. to date, no clear evidence exists of possible widespread financial imbalances in emerging markets. most countries with significant capital inflows have maintained their public and current account balances relative to gdp in surplus or only slightly in deficit, and they also have banking systems with adequate portfolio quality even in cases of rapid loan growth. 5 at the same time, the containment of domestic spending pressures on current accounts is explained, partly, by the accumulation of international reserves by central banks, as well as external financing by some firms, whose proceeds are invested abroad. in contrast, data reveal that the prices of some assets have increased considerably. from 2007 to 2013, most currencies have appreciated in real multilateral terms. some studies suggest that, in some cases, these rates could be above their fair values, when fundamental conditions are taken into consideration. 6 additionally, the stock market indices in most emerging economies have behaved similarly to those in the united states, some of them surpassing their levels prior to the crisis. however, as in the u. s. economy, rising stock prices could be justified by the generation of corporate profits in recent years. in contrast, no general trends of excessive rises in real estate prices have been observed. 7 government bonds have seen considerable appreciation, as the monetary expansion in advanced economies has contributed to downward shifts in and flattening of the yield curves in emerging economies. 8 to the