IMF worries about overheating in Asia

SYDNEY (AAP) - International Monetary Fund officials have warned a favourable growth outlook for Asia is being complicated by pockets of overheating and called for tighter monetary policy across the region.
Speaking at a symposium at the Sydney headquarters of the Reserve Bank of Australia (RBA), Anoop Singh and Roberto Cardarelli of the IMF's Asia and Pacific Department both said inflationary pressures in developing Asian economies were being exacerbated by strong capital inflows.
Credit growth in Asia was strong, housing prices were buoyant, and inflationary pressures were spilling over from the volatile food and energy components of consumer prices into core measures of inflation, Mr Singh said.
In some areas, notably China, there were signs of a credit boom, suggesting a significant part of the pressure on inflation was "home grown".
Policy interest rates in most Asian economies - Australia being a notable exception - were near or even below the inflation rate, he said.
Mr Cardarelli said capital inflows to Asia had recovered unusually quickly since the global financial crisis in 2007 and 2008 compared with other economic disruptions in recent times, the early 1990s and early 2000s.
This added to the risk of domestic economic overheating.
"Capital inflows to emerging Asia have been unique in terms of the rapidity with which flows have returned to the region after the global financial crisis," he said.
Inflows had reached 4.5 per cent of gross domestic product (GDP) only five quarters from the trough, compared with 20 quarters to hit the same level after the previous two crises.
Flows were still below the peaks of around 6.5 per cent of GDP seen before other recent, sudden slowdown in inflows.
But the proportion of those flows in the form of portfolio investment - buying of parcels of shares by institutions, rather than direct investment - was higher than before.
"And when you receive a lot of capital in the form of portfolio inflows in markets which are thin and which are illiquid, of course the risks are stronger," Mr Cardarelli said.
In response to inflationary pressures and the impact of capital inflows, central banks in the region had tightened monetary policy.
"The policy response in terms of macro policies - exchange rate, monetary and fiscal policies - has been in the right direction, but there is more that needs to be done.
"There is a lot of room in the region, and also outside the region in other emerging markets, to do more in terms of a standard macro policy response."
Many economies in the region had preferred to use "macroprudential" polices - regulatory or tax-based restrictions on lending or capital flows - to slow the inflow of capital.
"The transmission mechanism from policy rate to lending rate is actually weaker when you have large capital inflows," Mr Cardarelli said.
Banks can avoid passing through the increase on a policy rate to lending rates because they have so much capital they could access from outside their national borders, he said.
IMF research showed the most effective way of dealing with the inflationary shock of strong capital inflows was a combination of macroprudential policy and monetary policy.
"Macroprudential policies should be a complement, not a substitute, for monetary policy action," he said.
In the IMF's Regional Economic Outlook for Asia and the Pacific released last week, the IMF also called for exchange rate policy to be used in conjunction with the other arms of policy.
"In addition to higher policy (interest) rates, exchange rate flexibility is a key line of defence against overheating pressures.
"Exchange rate appreciation would result in a tightening of monetary conditions and reduce the burden to be borne by higher policy rates," the report said.
The report said some countries also have scope for fiscal consolidation, which would give them more scope to respond to future economic shocks.