Chapter 10: Competition, Low Profit Margin, Low Inflation and Economic Stagnation
Arturo Huerta Financial Liberalization Imposes ExchangeRate Stability Developing countries (particularly in Latin America) undertook liberalization of their financial markets in order to attract foreign funds to cover internal funding shortages, problems with the current-account deficit of the balance of payments, and problems related to economic growth. Limitations on short-term capital flows were eliminated to allow unrestricted movement, a prerequisite imposed by capital in order for funds to flow into a particular country. Yet the free flow of capital tends to bring changes in the currency, capital and money markets. With financial liberation, changes in expectations for the economy, or exchange rate behaviour, or internal versus external interest-rate differentials, can lead to rapid reversals of capital flows. Financial liberalization requires stability in the exchange rate in order to avoid speculative practices and losses in financial capital, which occur when the currency in which investment occurs is devalued. Thus bringing down inflation and exchange-rate stability go hand-in-hand with financial liberalization. The latter cannot happen without conditions of stability being met, insofar as, in a context of uncertainty regarding the exchange rate or profitability of investments in a country, the free movement of capital would act against currency and financial markets, which in turn would deepen exchange-rate instability and provoke a crisis. Thus countries with liberalized financial markets have been forced to seek low inflation, exchange-rate stability and conditions of domestic profitability, in order for capital to flow into a country and remain there. The economic situation today in Latin American countries is...
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