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Excepts from RBI governor’s recent speech at IMF Meeting
The messages that we heard are sharp, specific and candid. If I were asked to pick the headline message of the
presentation, it is that we are rapidly running out of time, and may therefore be running out of solutions.
The two big flashpoints are: renewed anxiety in the US about recession, and the deepening of the sovereign debt
crisis in the Euro area. Each is by itself a big risk, but the bigger risk is that both could materialize simultaneously,
and interact with each other with adverse feedback loops manifested through trade, finance and confidence.
Political Gridlock
The problems are well known, and the solutions are on the table. The main impediment to an effective resolution
common to both flashpoints appears to be political. In the US, the central issue is managing the tension between
fiscal stimulus in the immediate term, and credible fiscal consolidation over the medium to long term. In the Euro
area, there is a shared monetary framework, but without a shared fiscal framework. What is standing in the way
of a credible and confidence inspiring resolution of the fiscal-financial imbroglio are political compulsions.
Decoupling
Let me look at the global situation from the perspective of the EMEs. Before 2008, it was intellectually fashionable
to talk of ‘decoupling’ – that EMDCs will continue to be resilient even if there is a downturn in advanced
economies, because of improved macroeconomic policies, robust foreign exchange reserves and resilient financial
flows. In an age of globalization, the decoupling theory was never persuasive. The 2008 crisis dented its credibility
and the 2011 crisis has completely demolished it.
Channel of Contagion to EMEs
EMEs have been affected by both crises. Their macroeconomic stability, price stability and financial stability are
jeopardized by the global crisis through several channels.
Firstly, with growth stalled in the advanced economies, external demand is slowing and affecting the exports.
Secondly, The crisis is permeating to EMEs through risk aversion and deleveraging to produce volatility in capital
flows and in financial markets. This is impacting financing conditions, with feedback to economic activity.
Thirdly spikes of volatility in the already elevated levels of commodity prices are stoking inflationary pressures in
some of the EMEs and complicating macroeconomic management in the face of slowing growth.
Fourthly, macro-financial loops could come into play as another channel of transmission of shocks. Rising credit
risks due to deterioration in asset quality could impair the capital of banks or even render it insufficient.
By far, the most important channel of transmission is the confidence channel which could hurt investment and
growth prospects in EMEs - when confidence is hit, even strong fundamentals do not matter.
Market Signals
In trying to reach a solution, it is important to recognize what the markets are signaling, even though, admittedly
the basis of some of these market engendered fears may not be objective. The policy decisions that we take will
be more effective if they are seen to be endorsed by markets.
2008 and 2011
There are important differences between the 2008 crisis and today’s situation.
In 2008, when the world got into a crisis, there was a lot of policy force. Sadly, the policy space for stimulus is
much less today.
In 2008, the world responded to the crisis in coordination. A similar perception of coordination is lacking today.
In 2008, both advanced economies and EMDCs were at the same phase of the business cycle. Today, they are at
different phases of the business cycle.
In 2008, the crisis originated in the financial sector and transmitted to the real sector, but the rescue was by the
public sector. In 2011, it is the other way round. The crisis is originating in the public sector and hitting the
financial sector, and undermining the confidence of the private sector.
There is a great deal of anxiety around the world about the outcome of this weekend’s Fund-Bank annual
meetings and the G-20 meetings. There are strong expectations that we will converge on a plan of action that will
reverse the crisis of confidence. We once again have to show the resolve that we did in 2008.
Source: RBI, CLSA Asia-Pacific Markets
India Equity Research Reports, IPO and Stock News
Visit http://indiaer.blogspot.com/ for complete details �� ��
Excepts from RBI governor’s recent speech at IMF Meeting
The messages that we heard are sharp, specific and candid. If I were asked to pick the headline message of the
presentation, it is that we are rapidly running out of time, and may therefore be running out of solutions.
The two big flashpoints are: renewed anxiety in the US about recession, and the deepening of the sovereign debt
crisis in the Euro area. Each is by itself a big risk, but the bigger risk is that both could materialize simultaneously,
and interact with each other with adverse feedback loops manifested through trade, finance and confidence.
Political Gridlock
The problems are well known, and the solutions are on the table. The main impediment to an effective resolution
common to both flashpoints appears to be political. In the US, the central issue is managing the tension between
fiscal stimulus in the immediate term, and credible fiscal consolidation over the medium to long term. In the Euro
area, there is a shared monetary framework, but without a shared fiscal framework. What is standing in the way
of a credible and confidence inspiring resolution of the fiscal-financial imbroglio are political compulsions.
Decoupling
Let me look at the global situation from the perspective of the EMEs. Before 2008, it was intellectually fashionable
to talk of ‘decoupling’ – that EMDCs will continue to be resilient even if there is a downturn in advanced
economies, because of improved macroeconomic policies, robust foreign exchange reserves and resilient financial
flows. In an age of globalization, the decoupling theory was never persuasive. The 2008 crisis dented its credibility
and the 2011 crisis has completely demolished it.
Channel of Contagion to EMEs
EMEs have been affected by both crises. Their macroeconomic stability, price stability and financial stability are
jeopardized by the global crisis through several channels.
Firstly, with growth stalled in the advanced economies, external demand is slowing and affecting the exports.
Secondly, The crisis is permeating to EMEs through risk aversion and deleveraging to produce volatility in capital
flows and in financial markets. This is impacting financing conditions, with feedback to economic activity.
Thirdly spikes of volatility in the already elevated levels of commodity prices are stoking inflationary pressures in
some of the EMEs and complicating macroeconomic management in the face of slowing growth.
Fourthly, macro-financial loops could come into play as another channel of transmission of shocks. Rising credit
risks due to deterioration in asset quality could impair the capital of banks or even render it insufficient.
By far, the most important channel of transmission is the confidence channel which could hurt investment and
growth prospects in EMEs - when confidence is hit, even strong fundamentals do not matter.
Market Signals
In trying to reach a solution, it is important to recognize what the markets are signaling, even though, admittedly
the basis of some of these market engendered fears may not be objective. The policy decisions that we take will
be more effective if they are seen to be endorsed by markets.
2008 and 2011
There are important differences between the 2008 crisis and today’s situation.
In 2008, when the world got into a crisis, there was a lot of policy force. Sadly, the policy space for stimulus is
much less today.
In 2008, the world responded to the crisis in coordination. A similar perception of coordination is lacking today.
In 2008, both advanced economies and EMDCs were at the same phase of the business cycle. Today, they are at
different phases of the business cycle.
In 2008, the crisis originated in the financial sector and transmitted to the real sector, but the rescue was by the
public sector. In 2011, it is the other way round. The crisis is originating in the public sector and hitting the
financial sector, and undermining the confidence of the private sector.
There is a great deal of anxiety around the world about the outcome of this weekend’s Fund-Bank annual
meetings and the G-20 meetings. There are strong expectations that we will converge on a plan of action that will
reverse the crisis of confidence. We once again have to show the resolve that we did in 2008.
Source: RBI, CLSA Asia-Pacific Markets
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