"As money has rushed into emerging markets in recent years, this has created an image of abundant liquidity. But this image may be dangerously illusory, some policy makers fear, as one of the little-noticed ironies of the 2013 financial system is that there may now be fewer–not more–shock absorbers in the markets than there were before 2008. This factor may explain why this summer's gyrations in emerging market assets were so dramatic."
If a shock was to hit Brazil, India, Indonesia – or any other emerging market country – tomorrow, how would investors react? Would asset values adjust smoothly, amid an explosion of trading flows? Or would markets instead freeze up, as liquidity evaporated?
It is not an academic question. Earlier this year, when investors started to speculate about an American "taper" – or wind-down from quantitative easing – this mere conjecture was enough to spark a dramatic gyration in the value of some emerging market assets, such as Indian or Brazilian equities.