Self-Insurance or Self-Destruction?

The US Federal Reserve is gradually pulling back after months of purchasing bonds to inject liquidity into global markets. As liquidity shifts toward developed economies, the foreign reserves of emerging economies may not be enough to protect those financial systems, argues global strategist Gene Frieda for Project Syndicate: “In order to break the destabilizing cycle of short-term capital flows and excessive accumulation of foreign reserves, the International Monetary Fund, with broad support from the G-20, must devise new rules regarding monetary-policy spillovers.” Nations competed to enlarge foreign reserves as self-insurance, he suggests. Emerging economies could have allocated smaller sums to US Treasuries and other foreign bonds, providing more balance. Countries like South Africa and Mexico that did not engage in currency intervention – “removing the incentive to accumulate external debt, encouraging flexibility within the real economy, and promoting the development of deep and liquid capital markets” – are less troubled by the Federal Reserve pullback. Regulations allowing IMF assessment and multilateral insurance could reduce excessive foreign-reserve accumulations and volatility. – YaleGlobal