Asset Price Instability and Policy Responses: The Legacy of Liberalization
The debate about the dynamics and potential policy responses to asset inflation has intensified in recent years. Some analysts, notably Borio and Lowe, have called for 'subtle' changes to existing monetary targeting frameworks to try to deal with the problems of asset inflation and have attempted to developed indicators of financial vulnerability to aid this process. In contrast, this paper argues that the uncertainties involved in understanding financial market developments and their potential impact on the real economy are likely to remain too high to embolden policy makers. The political and institutional risks associated with policy errors are also significant. The fundamental premise that a liberalised financial system is based on 'efficient' market allocation cannot be overlooked. The corollary is that any serious attempt to stabilize financial market outcomes must involve at least a partial reversal of deregulation.