Cross-border financial linkages: Challenges for Monetary Policy and Financial Stability
Opening the BIS Cross-Border Financial Linkages Conference in Wellington, Mr Wheeler said that cross-border financial integration can assist efficient resource allocation, smooth consumption, and distribute and diversify risk. It can support the global transfer of skill-enhancing technologies, and the financing of innovation and catch-up technologies.
"Cross-border financial linkages can, however, present difficult challenges for monetary policy, for example through exaggerated exchange rate movements and persistent and damaging deviations from the economic fundamentals.
"Like New Zealand, many of the Asian economies have experienced an appreciation in their real exchange rate in recent years. This has generated difficult headwinds for those export producers not experiencing high prices for their products, and for firms competing against cheaper imports.
"The best policy response to reduce this pressure is to increase domestic savings, and undertake reforms that raise productivity and improve competitiveness. Changes to the exchange rate regime and capital controls are not the answer.
"Cross-border financial linkages can also have important implications for financial stability, in amplifying financial market shocks."
Mr Wheeler said that macro-prudential policies can help in addressing financial stability concerns related to the housing market.
"We believe the LVR restrictions introduced last October have significantly reduced housing market and consumer price inflation pressures. This reduction allowed us to delay the tightening in interest rates, thereby reducing the incentive for any additional capital inflows into the New Zealand dollar in search of higher yields."
Mr Wheeler also noted that New Zealand's reliance on external funding can present liquidity and rollover risks.
"To address these risks, the Reserve Bank introduced a prudential liquidity policy in 2010, with minimum liquid asset requirements, and a minimum core funding ratio. Today the core funding ratio of our commercial banks is around 85 percent (against a minimum of 75 percent) and well above the 60 percent level prior to the Global Financial Crisis. As a result, the vulnerability of the banks to offshore financial shocks has been substantially reduced."
Mike Hannah, Head of Communications
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