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External Aspects of East Asian Economies and Finance

in light of growing interest in regional integration

January 19, 2007
Takeo Nakamura*1
Toshiaki Shinohara*2
Bank of Japan

Click on ron0701a.pdf to download the full text.

Abstract

This paper is intended to provide an overview of the external aspects of East Asian economies and finance in response to the inquiries and requests from practitioners and researchers raised in the course of research activities at the Center for Monetary Cooperation in Asia (CeMCoA) of the Bank of Japan. This paper paints a general picture of developments in the region in light of growing interest in regional economic and financial integration.  Given the strong preference for the US dollar, and as long as foreign capital inflows continue to play a role for economic development, it is of vital importance for the region to develop financial and foreign exchange markets that are liquid and resilient enough to absorb shocks caused by large-scale capital flows.

In this regard, interest rate arbitrage mechanisms must be structured between domestic and foreign markets in order to improve market functions for the East Asian region as a whole.  Such market mechanisms will be preconditioned on the formation of interest rates in a variety of maturities through active trading by a wide range of market participants.  This will set a basis for securing an appropriate swap spread in the foreign exchange markets.  In addition, increased stability in settlement among local currencies is another important factor contributing to improvement of market mechanism.

If regional foreign exchange and financial markets were equipped with full fledged market mechanism and constantly adjusted in accordance with the change of expectations of market participants, the risk of turbulent movement in capital flow would significantly be reduced.  And finally, it should be added that enhanced functioning of short-term money markets is crucial for effective central bank operations in safeguarding the economy against disruptive external shocks.

Views expressed in this paper are those of the authors and not those of the Bank of Japan.

  • *1Head of the Center for Monetary Cooperation in Asia (CeMCoA) (Takeo.Nakamura@boj.or.jp)
  • *2Director, Center for Monetary Cooperation in Asia (CeMCoA) (Toshiaki.Shinohara@boj.or.jp)