The need and benefits of living on reclaimed land have been accepted and the focus is on strengthening the infrastructure to sustain this. Similarly, financial integration is a choice. Countries decide to become financially integrated because the perceived benefits of doing so outweigh the costs. Moving forward sustainably requires going beyond coping with capital flows to living with them. This involves developing and leveraging on fundamental economic strengths to enhance countries’ resilience to external shocks. A diversified export base focused on high value-added products and services translates into higher margins and pricing power, and hence less sensitivity to swings in the exchange rate. At the same time, developing a firm domestic consumer base will solidify economies’ internal strength and lessen the dependence on external demand. Much can also be done on the financial side. Deep and liquid markets would help to absorb swings in capital flows without overly large price movements. The availability and widespread usage of risk management instruments, particularly foreign currency hedging, would mitigate the negative repercussions from asset price volatility. Outward capital flows by domestic investors can enhance stability as international asset holdings can provide an important buffer during periods of volatility. Last, but not least, limiting leverage in the banking system can go a long way in cushioning the economy from external shocks. In most cases, exchange rate flexibility will be an indispensible part of living with capital flows.
The more the international investment community succeeds in differentiating each country’s prospects, the better the outcome will be, both for investors’ returns as well as the countries involved. Ladies and gentlemen, I have spent much of my remarks talking about the challenges of financial integration. It is important, however, not to lose sight of the bigger picture. The benefits of being part of an open and integrated global economic and financial system are immense and should be embraced. The question is not whether to be integrated, but how to best do it in a way  4  BIS central bankers’ speeches  that avoids a drift towards financial protectionism. Success on this front ensures that the legacy we leave for the generations behind us is one of opportunities rather than problems. In choosing the appropriate strategies, a balance has to be struck between boldness and humility. We should be bold in our willingness to question conventional wisdom and try new initiatives. But in a constantly evolving global economy, we must remain humble about our understanding of how things work and be acutely aware of the limits of our knowledge. As Albert Einstein once said “The difference between genius and stupidity is that genius has its limits.” At an institution for learning such as this, I think it is fitting to end with that quote. Thank you for your attention. BIS central bankers’ speeches  5