Prof. Jayanth R. Varma’s Financial Markets Blog

A blog on financial markets and their regulation

Rakesh Mohan (BIS) report on Capital Flows and Emerging Economies

The Committee on the Global Financial System (CFGS) of the Bank for
International Settlements established a Working Group under Dr. Rakesh
Mohan of the Reserve Bank of India (RBI) to study capital flows and
emerging economies. The Group submitted a very interesting and
valuable report last

The group was originally set up primarily to study the implications
of capital inflows for emerging economies, but the changed environment
has made it a very valuable study of how the global crisis is
impacting emerging economies and how these economies are responding to
the crisis. The Working Group should be commended for interpreting
their mandate broadly and covering the events of 2007 and 2008.

Even to people like me who have been following recent developments
in several emerging countries keenly, there is a wealth of fascinating
data and case studies in the report. Most of us find it easy to follow
what is happening in the US and in our own country. The experiences of
other countries – especially emerging economies – is not
well documented in the publicly accessible literature. The blogosphere
is not exactly littered with Bloomberg terminals and Datastream
subscriptions, and even those with access to these find that quality
reporting and analysis is not readily available for non US

The conclusions of the report are also well balanced and sensible
recognizing the beneficial effects of capital flows –
particularly foreign direct investment and foreign portfolio equity
investment. It also lays stress on the development of the domestic
financial sector including pension funds. There is a clear recognition
that the price-stability focus of monetary policy can be undermined by
paying too much attention to exchange rate objectives.

The group was clearly racing against time to finish the report as
events pushed them far beyond their original mandate. As a result, the
proof reading of the report has probably been a little spotty as
well. I spotted a couple of errors that would almost certainly have
been eliminated by a more leisurely proof reading process:

  • In three different tables (C2, E1 and E3), the report states that
    the market capitalization of India’s stock market at the end of
    2007 was 317% of GDP. Though end-2007 was the height of the stock
    market bubble in India, 317% is still nearly twice as large as the
    real number. I suspect that somebody carelessly added up the market
    capitalization of the BSE and the NSE without correcting for the
    double counting resulting from most large companies being listed on
    both exchanges. (My preferred rough and dirty measure is the market
    capitalization of the BSE, but more refined estimates are certainly
    possible). I am sure that given more time for proof reading, this
    error would have been corrected.
  • While discussing Korea, the report states (page 120):
    “Following the Lehman failure, the spread of CCS [Cross Currency
    Swaps] over interest rate swaps widened significantly, and both banks
    and corporate borrowers faced a sharp increase in the cost of swapping
    borrowed dollars into local currency.” My memory was that the
    problem was the reverse – in late 2008, Korean borrowers were
    swapping local currency into dollars to repay maturing dollar debt and
    it was the cost of doing this that rose sharply. Graph H11 confirms
    that this was indeed the case: the spread “widened” to a
    huge negative value (the graph shows that the CCS rate itself went to
    zero and then turned slightly negative). Again, a less hurried proof
    reading would I am sure have caught the error.

But this is mere nitpicking about a report that I enjoyed
reading. I strongly recommend that all those interested in how
emerging markets are coping with these troubled times should read the
whole report especially Chapter H on the developments in 2008.


One response to “Rakesh Mohan (BIS) report on Capital Flows and Emerging Economies

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