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Currency Wars: Bernanke Defends Fed Policy, Calls for Emerging Market Currency Appreciation

Courtesy of Mish.

Fed chairman Ben Bernanke is at odds with Brazil, China, and even the IMF over his policies. Please consider the BBC report Bernanke defends Federal Reserve stimulus measures

Brazil has said US monetary easing to keep interest rates low and weaken the dollar has hurt emerging economies.

And International Monetary Fund chief Christine Lagarde warned on Sunday of consequent asset bubbles developing in emerging nations.

Speaking in Tokyo, where the International Monetary Fund and World Bank are holding annual meetings, Mr Bernanke said: “The linkage between advanced-economy monetary policies and international capital flows is looser than is sometimes asserted.”

On Friday, Brazil’s finance minister, Guido Mantega, warned that his country would take “whatever measures it deems necessary” to fight the problem.

“Emerging markets can’t passively endure large and volatile capital flows and currency fluctuations caused by rich countries’ policies,” Mr Mantega said in Tokyo.

“Advanced countries cannot count on exporting their way out of the crisis at the expense of emerging-market economies,” he said. “Currency wars will only compound the world’s economic difficulties.”

In a speech at the end of the IMF meeting, Ms Lagarde said: “We have seen several bold initiatives by major central banks certainly that the IMF highly praises and values as major contributing factors to stability.”

But she acknowledged that “there are diverging views within and across countries about important issues including the management of capital flows”.

She said monetary easing “could strain the capacity of those economies to absorb the potentially large flows and could lead to overheating asset price bubbles.

Bernanke’s Speech

Let’s take a closer look at Bernanke’s speech that has Brazil clearly upset, and the IMF questioning what Bernanke is doing. Here are a few snips from “Challenges of the Global Financial System: Risks and Governance under Evolving Globalization,” by Ben Bernanke in Tokyo, Japan.

Although the monetary accommodation we are providing is playing a critical role in supporting the U.S. economy, concerns have been raised about the spillover effects of our policies on our trading partners. In particular, some critics have argued that the Fed’s asset purchases, and accommodative monetary policy more generally, encourage capital flows to emerging market economies. These capital flows are said to cause undesirable currency appreciation, too much liquidity leading to asset bubbles or inflation, or economic disruptions as capital inflows quickly give way to outflows.

I am sympathetic to the challenges faced by many economies in a world of volatile international capital flows. And, to be sure, highly accommodative monetary policies in the United States, as well as in other advanced economies, shift interest rate differentials in favor of emerging markets and thus probably contribute to private capital flows to these markets. I would argue, though, that it is not at all clear that accommodative policies in advanced economies impose net costs on emerging market economies, for several reasons.

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