“But Hélène Rey, a professor at the London Business School, stands firmly by her claim that the Fed’s propensity to spur speculative — and at times damaging — investment flows remains underappreciated…

…and that more aggressive steps need to be taken to mitigate them.“I think Ben has a very good point, even if we do recognize a global financial cycle, how do we know it is excessive,” she said. “Still, my evidence points to additional risk-taking — not only in emerging markets but Europe as well.”, Landon Thomas Jr., “Economist’s Criticism of Federal Reserve Policies Gains Ground”, The New York Times, December 8, 2015

“Clearly, this same issue happens domestically, with the extreme volatility of U.S. housing/real estate, stock, and bond prices. (Fed-distorted/caused asset bubbles and busts.) It’s just that many mainstream U.S. economists won’t speak up against the Fed, maybe because the Fed controls or influences so many top economic jobs in the U.S.? I am glad to see top foreign economists like Ms. Rey providing the evidence and speaking the truth regarding the Fed’s market-distorting and damaging activities.”, Mike Perry, former Chairman and CEO, IndyMac Bank

Economist’s Criticism of Federal Reserve Policies Gains Ground


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Hélène Rey advocates regulations to reduce the intensity of global capital flows caused by interest rate changes in the United States. Credit Fernando Rodriguez for The New York Times

Many Fed watchers have warned about the upsetting effect Ben S. Bernanke’s aggressive central bank actions have had on emerging markets around the globe.

But when the recently retired chairman of the Federal Reserve came to the International Monetary Fund last month to deliver a vigorous defense of how his bond-buying spree played out abroad, Mr. Bernanke directed his remarks not at prominent critics in Brazil and India but at a 45-year-old French economist living in London.

Hélène Rey, a professor at the London Business School, contends that the impact of Fed policies on global markets has become so potent that emerging markets have become largely powerless in terms of coping with the large investment flows that pour into and out of their economies.

Mr. Bernanke’s speech largely focused on his own legacy, but the issue of how mindful the Fed should be regarding the effect that rate changes have on other countries has become critically important.

This fall, Fed governors surprised many by deciding not to raise rates; one of the factors cited was the impact that China’s currency devaluation would have on already fragile emerging markets. Many economists have been warning that a rate increase combined with uncertain exchange rates in China and other countries would weaken global growth.

Now, with all indications pointing to a rate increase this month — the first in more than nine years — the fear remains that emerging markets will get hit by another round of capital volatility and currency devaluations as investors exit risky assets in favor of higher yielding prospects in the United States.

All of which makes Ms. Rey’s research particularly relevant, not least her recommendation that policy makers in the United States and abroad put in place regulations that reduce the intensity and speculative fervor of these flows. That could mean capital controls in emerging markets or new rules for investment funds that would punish short-term trading by investors.

“Hélène has pushed the notion that there is a global financial cycle and that countries are exposed to it independently from the exchange rate regime they use,” Olivier Blanchard, the former chief economist of the I.M.F., said in an introduction to a lecture Ms. Rey gave at the fund in 2014. “And she has suggested that the only way to deal with it is through capital controls. This is quite a different position and likely to be quite influential.”

In a widely discussed paper that she presented two years ago at a central bank conference in Jackson Hole, Wyo., Ms. Rey described what she called a global financial cycle whereby financial firms, often using borrowed money, swoop into Malaysian, Brazilian and Turkish markets when rates in the United States are low and swoop out when rates rise — frequently leaving wreckage in their wake.

Ms. Rey is not the first economist to propose that volatile capital flows, especially those that cause real estate bubbles, may be harmful for countries that absorb them.

Hyun Song Shin, a former Princeton professor who is the head of research at the Bank for International Settlements in Basel, Switzerland, has been talking for a number of years about how Fed policies have spurred speculative investment flows globally.

But by highlighting how new exchange rate policies intended to help countries handle these money streams have not worked, Ms. Rey’s research offers a provocative new twist.

In previous emerging market crises, most countries got into trouble because their exchange rates were tied to the dollar, making them vulnerable to the ups and downs of interest rate policies in the United States.

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Construction in Rio de Janeiro. Volatile investment flows in countries like Brazil and Turkey are thought to be hurting their economies. Credit Lalo de Almeida for The New York Times

To better insulate themselves from these external policy shocks, the I.M.F. and most economists advised these countries to let their exchange rates float freely, which most have done.

What Ms. Rey found, however, was that countries like Brazil, Turkey and South Africa were just as exposed to the whipsaw effect of rate-driven capital flows with flexible rates as they were when currencies were pegged to the dollar.

This conclusion suggests that what ails countries like Turkey and Brazil is less their troubled economies (high inflation and lots of debt) and more the volatile investment flows coming into their countries.

And it questioned what has long been seen as a core principle for emerging economies: that the free flow of capital into and out of these markets is a force for good that should be encouraged.

“There is no doubt that Hélène’s work carries with it important policy implications,” said Mr. Shin, the economist at the Bank for International Settlements, whose work on global capital flows Ms. Rey has drawn upon.

Ms. Rey’s paper, delivered in the summer of 2013, could not have been better timed. Just months earlier, global markets had been roiled by the so-called taper tantrum when global investors pulled billions of dollars out of emerging economies based on the news that the Fed would taper its bond purchasing program.

Suddenly, she was very much in demand — fielding calls from central bankers, policy makers and global investors alike, all of whom were searching for a framework to help them analyze this sudden bout of market volatility.

“It has been a nice surprise — life has definitely gotten busier,” Ms. Rey said in a telephone interview from Santiago, Chile, where she was talking to the central bank there about how best to respond to capital flows. “This is an important debate. We have to decide which flows are beneficial and which are speculative.”

Why the Fed Did Not Raise Rates

Officials are now debating whether the economy is strong enough to start raising rates. But when the Fed does move, borrowing costs and interest rates on savings are likely to start climbing.

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Her ascent has been rapid. A gift for crunching numbers lifted her from the small town of Brioude in central France to a Grande École in Paris, a scholarship at Stanford University and a doctorate from the London School of Economics.

In 2000, she was recruited to Princeton University by none other than Mr. Bernanke, who was the chairman of the university’s economics department at the time.

She is married to Richard Portes, a prominent economist also at the London Business School.

Ms. Rey has been the co-author of several papers of note, but it has been her work on capital flows that has drawn attention. In 2014, she was asked to deliver the Mundell-Fleming lecture at the I.M.F., one of the most prestigious invitations available to an internationally minded economist.

Indeed, it would be from this very platform that Mr. Bernanke would offer up his deconstruction of Ms. Rey’s thesis one year later.

To be sure, he took care to laud the quality of her work, but there was also a hint of defensiveness in his remarks. After all, Mr. Bernanke was the one holding the monetary reins during this period and he questioned whether Ms. Rey’s definition of a swarm of investors chasing risky assets when rates in the United States are low might not be overly simplistic.

And wasn’t it also true that those experiencing the most turbulent capital flows — Turkey, Brazil and South Africa, for example — were already on edge as a result of their own economic problems?

“These were countries that were vulnerable,” Mr. Bernanke said in his speech. “Their policies made them riskier.”

Unlike many rising economists, Ms. Rey has a humble air about her, and she takes pains to say that her research is not meant to be critical of Mr. Bernanke’s time at the Fed.

But she stands firmly by her claim that the Fed’s propensity to spur speculative — and at times damaging — investment flows remains underappreciated and that more aggressive steps need to be taken to mitigate them.

“I think Ben has a very good point, even if we do recognize a global financial cycle, how do we know it is excessive,” she said. “Still, my evidence points to additional risk-taking — not only in emerging markets but Europe as well.”

A version of this article appears in print on December 8, 2015, on page B1 of the New York edition with the headline: Seeking Firewall Between Fed and World


Posted on December 8, 2015, in Postings. Bookmark the permalink. 1 Comment.

  1. Fantastic article!

    Mark Nelson 3256 Sitio Tortuga Carlsbad, CA 92009 760.473.7558 mnelson.doit@gmail.com

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