EASY monetary conditions have had a global impact since the US Federal Reserve and other leading central banks adopted quantitative-easing policies, but this must not be taken as the "new normal" state of affairs, Monetary Authority of Singapore managing director Ravi Menon has warned.
He said in an interview with the journal Central Banking published yesterday that policy has to eventually normalise, and that this should be done as soon as practicable so that "people do not think easy money is the new state of affairs and make investment decisions on that basis".
Mr Menon, who used to be permanent secretary at the Ministry of Trade & Industry and deputy secretary in Singapore's Ministry of Finance, also said in the interview that China was at "a major inflection point", and that its major restructuring and reform effort would not be easy to pull off.
"The sooner we see a normalisation of monetary conditions globally, the better for us here in Asia and in emerging economies," he told the UK-based publication, which circulates widely within the financial community.
"The spillover effects of unconventional monetary policies are not insignificant," he said. "Volatility in capital flows, pressures in asset markets, a general increase in financial stability risks and a flattening of the yield curve that distorts investment decisions are not trivial consequences."
Abnormally low interest rates have caused longer-term structural challenges for financial market participants such as pension funds.
This was not just about macroeconomics, he argued. "There are broader economic and social consequences from low interest rates, not to mention some of the distributional effects that these unconventional monetary policies have had."
Most central bank governors in emerging economies want to see monetary policy normalised as soon as practicable, he noted, but stressed that such action needs to take place in an orderly fashion so as not to unsettle markets, and to give economies time to adjust.
Mr Menon said the US Fed has done a "reasonably good job" in communicating its monetary policy intentions.
He noted that it was sending out two messages: One was that policy has to eventually normalise - an important message, so that people do not think this is the new state of affairs and make investment decisions based on this.
The other message is that normalisation is not coming too soon, and that the pace of this would be dependent on the state of the US economy.
Mr Menon said in the interview that there was no recipe or textbook answer on how to do this and little certainty on how markets will respond to the normalisation of interest rates.
"Some economies, which may not have been as cautious as they should have been during the boom years of easy money, may have a tougher time negotiating the exit of these policies."
On China's reform effort, he described it as being "unprecedented in scale and ambition" and difficult to accomplish, especially since China is undertaking it at the time when the growth momentum is slowing.
The key challenge facing Chinese policy-makers is to pull off an orderly restructuring, he said.
"Growth has already moderated from more than 10 per cent on average to about 7 to 8 per cent. Can they sustain the reform or even accelerate the reform effort, without too big a cost to growth and employment?
"The primary concern of Chinese policy-makers is that there is a large number of people coming into the work force each year and they do not want to see a big increase in unemployment."
China can probably deal with problems in its "shadow banking" sector, but deflating China's real estate "bubble" may prove more difficult as tackling the issue is more "art than science", he said.
"You have to deflate it gently so it does not create disruption in the real economy. You cannot jam on the brakes and risk derailing the economy."