A striking example of rational mimetic behaviour is the influence that hedge funds posess as “opinion leaders” and trend setters. By its nature, trend following amplifies the imbalance that may at some point affect a market, potentially leading to vicious circles of price adjustment and liquidation of positions. Moreover, increasing numbers of participants are able to access financial markets directly, while the expertise to deal with a wide range of technical information is not evenly distributed. This may also reinforce the role of “gurus”. Index management, as a fund management technique, has proven very popular on equity markets and may have contributed to exacerbating fluctuations in financial asset prices. Because their goal is to mimic the performance of indices, “passive managers” constantly strive to match the composition of their benchmark. They thus help to amplify market trends, buying more as the market rises and increasingly liquidating as the market drops. It can be argued that index funds distort the prices of the targeted indices and that, as a result, the indices end up creating rather than measuring performance. 13  Leading indicators of currency crisis in emerging countries – BURKART, COUDERT – Notes d’Etude et de Recherche – Banque de France – 2000. 6  BIS Review 71/2002  The impact of risk management techniques on market dynamics is particularly enlightening with regard to the question of asset price overshooting.
The economic crisis that began in 1997 represents the latest national challenge. True to historic form, Korea has responded decisively and vigorously to that challenge, with the Bank of Korea playing a critical role in the overall effort. A strong case can be made that, of all the countries affected by the broader crisis in the emerging markets, Korea has gone furthest to repair the damage and institute underlying reforms to prevent future crises. That said, in Korea and elsewhere, the recovery is not yet complete, and more remains to be done. The depth, breadth and rapidity of economic and technological developments of the last several years clearly underscore the increasingly international nature of policy challenges, and the dramatic transformation of the international financial landscape. The intensified integration of markets - reflecting the globalization of capital, production and labor - has increased the risk of contagion, making it virtually impossible for any country that wants to be part of the global trading system to insulate itself from external forces. The crisis and the recognition that we have entered a new environment have set in motion a range of efforts dedicated to building a new international financial architecture. My remarks today will focus on what I believe can be done, from my perspective, to enhance domestic financial resiliency, within the context of these international efforts, and particularly on two essential building blocks: a strong financial system and a sound and stable macroeconomic environment.