In normal times, if a country’s currency appreciates to the point where it begins to jeopardise price stability, that country’s central bank will react by lowering the reference interest rate. Lowering rates makes portfolio investments denominated in the relevant currency less attractive, thereby weakening it on the foreign exchange markets. However, when nominal interest rates reach their lower bound at or close to zero, central banks must take unconventional measures to prevent an undesired tightening of monetary conditions. A minimum exchange rate is one such measure. In summary, a minimum exchange rate is first and foremost a temporary instrument for use in situations where foreign exchange markets are extremely unsettled, a country’s currency is substantially overvalued against most other currencies, and nominal interest rates are at their lower bound, meaning that the exchange rate can no longer be influenced by cutting interest rates. The introduction of the minimum exchange rate against the euro in September 2011 In summer 2011, the decision to introduce the minimum exchange rate undoubtedly made sense. We had already lowered the target range for the reference interest rate to between 0.0% and 0.25%, with the aim of reducing the three-month Libor to zero. Moreover, uncertainty on the financial markets was exceptionally high and the debt crisis had raised questions about the future of the euro. The acrimonious budget dispute in Congress was taking its toll and the US dollar was showing signs of weakening.
As in the case of sub-prime markets, risk awareness was not adequate by suppliers and demanders of financial instruments and no preemptive action was taken despite some very risky characteristics. The responses by crisis countries to prevent the next crisis were no different from what Asian economies did more than ten years ago. The calls made by the G-20 Leaders include putting more focus on financial stability, strengthening financial sector regulations and supervision, enhancing surveillance mechanism at both individual and international levels, especially more effective surveillance role and liquidity support by the IFIs, particularly the IMF, just to mention a few important initiatives. Please allow me a few comments on a few issues that I’d like to highlight. What has been done and what more needs to be done Effective surveillance: being good global citizen One of the immediate responses to the crisis has been to strengthen effective surveillance capacity at national and international levels. We are of course on the right track in this effort to create a more robust and effective surveillance system with a view to ensuring timely policy actions. Tackling the problem at an early stage not only helps lessen the chance that micro shocks can adversely affect the macroeconomy, but also safeguards against spillovers from one country to the rest of the world. In today’s globalized world, this spirit of good global citizenship is essential.