Another bubble

The World Bank warned that the sudden reappearance of billions of dollars in investment capital in East Asia raises concerns about asset price bubbles in equity and home prices across Asia. The major culprits in this case stem from some of the measures taken in response to the global economic meltdown, such as cutting interest rates and pumping enormous amounts of liquidity back into the economy. The flood of capital from governments and central banks has turned into hot money that is being invested in high-risk, high-return assets in Asian countries showing some early signs of an economic recovery. Recent data from Emerging Portfolio Fund Research indicates that $53 billion flowed into stock markets in major emerging countries this year. The International Monetary Fund pointed out that surging asset prices in some Asian countries is being driven by a flood of capital “divorced from fundamental forces of supply and demand.”

Of course, some people insist that there is no need to worry about asset bubbles, as equity and home prices in Asia are still below the levels posted before the global financial crisis. However, the Federal Reserve Board will continue to maintain an accommodative monetary policy of ultra-low interest rates for a considerable period by freezing benchmark interest rates. The dollar-carry trade situation is especially explosive, as it allows traders to borrow dollars at low rates while investing in another currency that offers a significantly higher short-term interest differential and exchange gains at the same time. The monetary policy of Asian central banks is geared toward refusing to absorb excess liquidity and maintaining low interest rates to prevent the won from gaining ground against a weak greenback. A policy approach to increasingly expand investment is currently underway.

The United States is a prime example of the terrible things that can happen when a bubble bursts. That is one of the main reasons why we should concentrate all of our energy on resolving the economic crisis. Fortunately, Korea dealt with this issue by expanding the strengthened debt-to-income ratio across the metropolitan region to non-bank financial intermediaries. Other countries are taking precautionary measures as well. Brazil will impose a 2 percent tax on foreign capital inflows, and the Australian central bank raised its benchmark interest rate for the second month in a row. However, as the U.S. prints more greenbacks, no country would dare to enact their exit strategies. Against this backdrop, an asset bubble is more likely than ever. The government and the Bank of Korea should therefore take every possible proactive measure to prevent excess capital from being concentrated in one market sector.