Recent capital flows to Asia Pacific countries: Trade‐offs and dilemmas

The 1990s has seen a resumption of voluntary private capital flows to developing countries, notably to Latin America and to the Asia Pacific. Their sustainability was called into question by the Mexican crisis and exchange rate collapse of 1994–5. This paper suggests that sustainability may, somewhat paradoxically, be related to restrainability, in the sense that, with a fixed or managed exchange rate, short‐term surges in both inflows and outflows must be regulated, taxed or at least sterilized, if they are not to create destabilizing surges in domestic liquidity. After reviewing the composition of recent capital inflows to various Asia Pacific countries, the paper reviews their sterilization dilemmas. It concludes that, whereas the short‐term need to restrain inflows has diminished, long‐term prospects for sustained inflows are good. Relatedly, Asia Pacific countries might be well advised to allow more short‐term volatility of their exchange rates, within the long‐term context of their present managed regimes, in order to discourage surges of capital flows that would otherwise have to be sterilized and possibly regulated.