mr meyer considers the role of exchange rate policy, macroeconomic policy, banking supervision and regulation remarks by mr laurence h meyer, a member of the board of governors of the us federal reserve system, at the ninth annual hyman p minsky conference on financial structure at the jerome levy economics institute, bard college, annandale - on - the - hudson, new york on 22 april 1999. structure, instability, and the world economy : reflections on the economics of hyman p minksy this paper has its origin in a request by don brash, governor of the reserve bank of new zealand, to present a central banker ’ s perspective on the asian crisis to a group of southeast asian central bankers. so the central banker ’ s perspective remains an organizing theme. central banks have two core missions : the pursuit of monetary policy to achieve broad macroeconomic objectives and the maintenance of financial stability, including the management of financial crises. the latter mission is closely connected to regulation and supervision of the banking system, so i include this within the central banker ’ s perspective, as well as broader issues related to systemic risk in the financial sector. central banks also often have or share with finance ministries control over exchange rate policy, including the choice of an exchange rate regime and the management of that regime. so, today, i consider the role of exchange rate policy, macroeconomic policy, and bank supervision and regulation in the crises and suggest some lessons in each case. as i was writing the paper, it became clear that my interpretation of the sources of, and appropriate policy responses to the crises among the asian emerging economies, drew heavily upon the work of hy minsky. perhaps that should not be surprising since hy and i were colleagues for more than two decades at washington university. but the truth is, in many respects, hy and i came from different worlds. my highly traditional background in economic theory was in rather stark contrast to hy ’ s self - proclaimed war on neoclassical economics. while it is true that i never lost my commitment to traditional models — not a surprise to those who still hear me talk about the critical importance of the nairu framework to understanding inflation dynamics — i have often found words coming out of my mouth that reflect the distinct and powerful influence that hy has had on my thinking. the truth is, there are few who have influenced my thinking about economics more than hy. indeed, he had so much to offer that if i only accepted a small dose, it was

##y ’ s “ financial instability hypothesis. ” in the case of the asian emerging economies, there was evidence of speculative excesses in financial and real estate markets in some of the countries. there was, in addition, an extraordinary taking - on of risk in the form of enormous leverage in the non - financial sector and in the financing of longer - term domestic investment projects with shorter - term foreign denominated borrowing. the failure to respect risks was not only evident in financial markets and financing practices, but also in the investment decisions themselves. these risks were compounded by poor risk management and inadequate bank supervision and regulation. it should be noted, however, that not all the countries were affected by all of these vulnerabilities or to the same degree. financial sector vulnerabilities often increase during a cyclical upswing, as minsky emphasized so often, setting the stage for the subsequent downturn. but in the case of the asian developing economies, there was also a systemic source of these vulnerabilities : weaknesses in corporate governance and moral hazard associated with implicit or explicit government guarantees. the result was incentives for excessive risk taking. to understand the dimension and spread of the crisis among asian developing economies, we also have to take account of the vulnerability generated by fixed exchange rates in the hyman p. minsky, “ can ‘ it ’ happen again, ” in dean carson, ed., banking and monetary studies, homewood, illinois : richard d. irwin, 1963. presence of volatile international capital flows, the role of market psychology, and the role of contagion effects. financial sector weaknesses, pegged exchange rate regimes and volatile capital flows combined to yield a highly combustible mixture that, with the spark of adverse shocks, resulted in the igniting of currency and debt crises, including the collapse of banking systems throughout the region. the result was both a particularly sharp economic downturn and significant obstacles to recovery, specifically the joint problem of restructuring of the banking systems and resolving the excessive debt in the nonfinancial corporate sectors. the dramatic declines in currency and equity markets in this case were also affected by the sharp swing in market psychology. in part due to a lack of transparency, markets had a hard time sorting out what the fundamentals dictated in terms of exchange rates and equity prices. that made the markets very sensitive to factors that affected confidence in the policies followed by the countries. this meant that prompt and decisive policy action in advance of imf programs was very