Short-term Capital, Streaming and Steaming

The U.S.'s weak dollar policy has already increased the vulnerabilities in the monetary policies of emerging economies. Another year of even more dollar weakness and hot money inflows may plant the seeds for their total destruction. Considering that memories from the last emerging market crisis are still fresh, emerging economies must act now to contain the situation.

First, emerging economies must stop hot money by any means. Forget about free market dogma. This is literally a life-and-death situation. In three months, the market may start to talk about QE 3 by the Fed. The hot money will likely double or triple from here. Financial markets like to say that government interventions are not effective in the end. This is nonsense. A sovereign country can do whatever it wishes, including throwing people in jail and confiscating foreign investment. The argument against it is that the market would punish you for this in future by denying you funding when you need it. Forget that. Russia gave foreign bondholders a deep haircut a decade ago. They are bending backwards to buy Russian bonds now. Besides, emerging economies don't get money when they need it, like ten years ago, even with high interest rates, and see money flooding in when they don't need it like they do now.
 
Second, emerging economies must increase interest rates decisively to cool inflation and asset bubbles. The latter is suicide. It nearly killed the emerging economies a decade ago. They may not survive the next time. When an economic crisis occurs, it can cause political instability. The interplay between the two could trap an economy for a long, long time. If you have forgotten what it was like a decade ago, look at the US, Britain, Spain, Greece, and Ireland today. Do we need more lessons on how harmful bubbles are?

The international community should give up on influencing the U.S. on what it would do. It will do what it will, driven by its domestic politics, even though its actions seem like madness to others. The U.S. starts to make sense when it first throws the people who caused the last bubble into jail rather than desperately searches for some quick fix.

Emerging economies, save yourselves!

Andy Xie is a board member of Rosetta Stone Advisors Limited