As the global economic slowdown overshadows inflation as the main concern of Asian central banks,they are also working to head off a related risk - that efforts to reflate the West could send a torrent of destabilising funds into their economies. Four central banks - Indonesia,Malaysia,the Philippines and South Korea- held rates steady at reviews on Thursday,citing the uncertainty over global growth. Three of those economies also foreshadowed steps this week to curb fund inflows,as concerns grow that investors will use measures by developed countries to pump up their economies as an opportunity to get cheap money which they will use to chase higher returns in emerging markets. "It's better that it comes in than it goes out,but surging capital flows in either direction create problems for the authorities," said Tim Condon,head of Asia research at ING in Singapore. Emerging Asia's financial markets lack the depth to absorb large amounts of inflows,which complicate policymaking and raise risks of rapid liquidity growth and asset bubbles as cash pumps up equity and property prices. And policymakers are well aware that flows can suddenly reverse. The region was deeply scarred by the Asian financial crisis of 1997/98,when a sudden and sharp withdrawal of foreign money sucked the economic life out of many economies. The current flows are not as intense as at the end of 2010,when the Federal Reserve's second round of quantitative easing,known as Q2,led to investors to borrow money at near-zero rates and then invest it elsewhere. "At this point,the continued inflow of capital is something that is still prospective,although at this point we see capital inflows,but on a more manageable scale," Bangko Sentral ng Pilipinas (BSP) Deputy Governor Diwa Guinigundo said on Thursday. "If and when capital flows resulted in higher domestic liquidity,and that would affect both inflation forecasts and expectations by the public,then the monetary board will change its monetary policy stance." The risk of a third round of quantitative easing to help revive the U.S. economy means that policymakers are preparing for a step-up in flows and are waiting to see what Fed Chairman Ben Bernanke announces at the next policy review on Sept 20-21. A senior Chinese foreign exchange official said earlier this week that an increasing amount of "hot money" will flow into emerging markets,including China. NON-RATE TOOLS A central bank's traditional tool of interest rates is of little use in containing capital inflows,and raising interest rates to curtail inflationary pressures caused by the inflows can only act to attract more funds. Instead,authorities try to curtail activity by making it harder or more expensive to bring money into a country,or placing restrictions on how quickly it can be moved. South Korea will impose taxes from next year on income earned by foreign investors on domestically issued foreign-currency bonds to help stem rising dollar-denominated debt and capital inflows. Indonesia may limit firms' exposure to foreign debt,as it looks to limit foreign exchange exposures which could sour if there was a sudden change in sentiment. Highlighting Indonesia's vulnerability,foreigners hold roughly a third of the country's total outstanding bonds,drawn by highs yields and appreciation of the rupiah currency,which has risen 5 percent against the U.S. dollar so far this year. The Philippines is looking at one-off steps to ease peso demand,such as the central bank selling dollars to the government to repay foreign debt and allowing firms with unregistered foreign loans to buy dollars from banks. While it left policy unchanged on Thursday,the BSP had raised reserve requirements at its previous two meetings to head off a build up in liquidity,and is looking to prevent non-deliverable forwards being used for speculative purposes. "We sense caution in using traditional monetary tools to curb liquidity since such actions may put pressure on local rates,provide arbitrage opportunities,and strengthen portfolio investors' appetite," said Jun Trinidad,Citi economist in Manila. "Creative adjustments to FX rules and regulations that spur exchange demand resulting in net outflows through import payments and debt service would be the way to deal with portfolio flows." After QE2,some countries in Asia imposed trading caps to restrict speculative inflows,imposed levies and taxes and increased holding periods for short-term assets to counter the impacts of inflows. This year,even the idea of a Tobin tax in financial transactions has been floated,although implementing one may prove difficult,as countries prepare for a possible repeat influx. "It's not the same thing as the three months after Bernanke's Jackson Hole speech a year ago. That was a sustained period of very rapid inflows,and I think it scarred all of them,and that's what they are fearing," said ING's Condon. "We haven't had a repeat of that and I don't think we will unless we see something dramatic on the 20th/21st out of Washington,and I think that is the big worry among the Asian central banks."
