From a historical perspective, capital flows today are currently not so abundant and no imbalances of income and expenditure are seen that might reveal substantial misalignments. After the recessive period of 2009, slack remains in our economies, and tensions in the near future cannot be ruled out. It is therefore advisable to begin exploring the proper policy responses. In such circumstances, the first line of defense must be an active monetary and fiscal management, within a context of exchange rate flexibility and stable inflationary perspectives. This combination proved very favorable to maintain macroeconomic and financial stability in 2008-2009, and has the necessary elements to also succeed in dealing with a potential period of strong capital inflows and appreciating exchange rate pressures. Additional measures, such as a foreign exchange intervention or controls on capital inflows, cannot be a priori ruled out, and will depend on each economy’s specific circumstances and characteristics. However, in implementing them it is essential that they do not become the cause of macroeconomic imbalances by encouraging massive capital inflows. In fact, distortions often do not originate in excessive appetite by foreigners for domestic assets, but in disturbances resulting from the application of inconsistent policies. On the one hand, exceptional measures cannot be used as a substitute for, say, a more austere fiscal policy or a strengthening of prudential regulation and supervision of banking and non-banking entities.
In the future, given the weaker cyclical behavior of developed economies, these differentials will probably increase, providing renewed incentives for capital flows to emerging economies. In this case, the appearance of short-term interest rate differentials would be a symptom of cyclical divergence between developed and emerging economies. Furthermore, in the coming years, the fundamentals of economic growth across economic zones, together with the deleveraging process in the developed world, could also encourage more capital flows into emerging economies, even if short-term turbulences in financial markets delay or push back its occurrence. The fact that capitals are flowing into emerging economies with renewed vigor does not mean that all such flows are being absorbed in net terms. If inflows are counteracted by comparable outflows, no significant impact should be felt either by output or the exchange BIS Review 72/2010  1  rate. Thus, for the purposes of analyzing the exchange rate, it is important to examine net capital flows. Given the balance of payments identity, net capital inflows must equal the current account deficit plus the hoarding of international reserves, the latter being equivalent to capital outflows conducted by the central bank. In any case, the prices of assets in the economy may be affected by gross flows depending on their composition, which matters from a financial stability point of view. More complex scenarios are those where capital inflows trigger a credit and a domestic spending boom by financing the leveraging of households, firms or government.