Tag Archives: Reserve Bank of India (RBI)

Emerging Markets Need to Prepare in Advance to Deal with Uncertainty

Managing Director of the International Monetary Fund Christine Lagarde speaks as Governor of Reserve Bank of India Raghuram Rajan looks on during an event at the RBI headquarters in Mumbai March 17 2015.Unconventional monetary policies, which include large purchases of government debt, has been used to provide policy accommodation in advanced economies since the 2007 global financial crisis.  However, these policies have had both positive and negative spillovers.

During a recent visit to India, International Monetary Fund (IMF) Chief Christine Lagarde, cautioned that “the unconventional monetary policies have had strong positive spillovers for the global economy, and by implication for India and other emerging markets.”  However, “it is also true that these policies led to a build-up of risks.” 

Between 2009 and the end of 2012, emerging markets received about US$ 4½ trillion of gross capital inflows, representing roughly one half of global capital flows.  Such inflows were concentrated in a group of large countries, including India, which received about US$ 470 billion (IMF, 2015).  As a consequence, bond and equity prices rallied, currencies strengthened, and spillovers to asset prices and capital flows were even greater than from earlier conventional policies (IMF, 2015).  “The danger is that vulnerabilities that build up during a period of very accommodative monetary policy can unwind suddenly when such policy is reversed, creating substantial market volatility,” she told Raghuram Rajan, Governor of Reserve Bank of India (RBI) and audience at the headquarters in Mumbai, March 17.

I agree the next move for emerging markets is to prepare in advance to deal with this uncertainty.  The reality is that as economic conditions improve in at least some advanced economies, portfolio rebalancing out of emerging market economies can be expected, and some volatility cannot be ruled out.  Remember the surprise indiscriminate capital outflows from India mid-2013?  With all eyes on US Federal Reserve change in posture, the timing of interest rate lift-off and the pace of subsequent rate increases can still surprise markets.

Photo source: voanews.com

Is India Better (or Worse) Off Increasing Competition in the Banking Sector?

asifma-annual-conference2014-header564x185At the Annual Asia Securities Industry & Financial Markets Association (ASIFMA) conference in Singapore, Deputy Governor of the Reserve Bank of India Shri R. Gandhi explained why India would be better off increasing competition in the banking sector.  The opening of branches in un-banked and under-banked centers, he said, would increase the flow of credit necessary for equitable development, diversify risks and help to tap latent opportunities.  “On the one hand channelizing foreign investments; on the other hand boost competitive spirit amongst the financial sector entities, thereby, raising the efficiency bar of the domestic players,” he continued. (Gandhi, 2014)

These statements are a powerful reminder of the transformational role foreign banks play in influencing the host country economies.  However, let us also consider the implication of policy preferences of various socioeconomic groups toward further financial integration.

First, foreign banks account for less than one per cent of total branches of commercial banks in India.  Out of the total of 318 foreign bank branches, 315 are in urban and metropolitan areas (RBI, 2014).

Second, over the long Photo taken by Sophia N. Johnson Chandigarh Punjab Sector 25. 2008run, international financial integration has historically favored capital over labor (Rogowski, 1987; Frieden, 1991).  In the shorter run and in terms of politics and policies, financial integration favors capitalists with mobile or diversified assets, and disfavors those with assets tied to specific locations and activities such as manufacturing or farming (Frieden, 1991).

Third, its true an important explanation for the current stability and growth of India’s financial sector has been the role of the Reserve Bank and the Ministry of Finance (along with other institutions like the Securities and Exchange Board of India (SEBI) that were set up by them in the 1990s), (Kapur, 2010).  However, international capital mobility changes the pattern of lobbying over national policies in developing country economies.  More specifically, it tends to shift the debate toward the exchange rate as an intermediate or ultimate policy instrument, thereby driving a wedge between those more sensitive and those less sensitive to exchange rate fluctuations and between those who favor currency appreciation and those who favor depreciation (Frieden, 1991).  This tracks a division of the economy between producers of tradable goods on the one hand, and international investors of producers of non-tradable goods and services on the others.

Financing For Infrastructure Development and Affordable Housing

The Reserve Bank of India (RBI) has taken bold step towards ensuring adequate flow of credit to core industries sectors, maintaining price stability and public confidence in the system.  On July 15, the RBI announced operational guidelines for flexible structuring and refinancing of new project loans to infrastructure and for issuance of long term bonds by banks for financing infrastructure project loans and affordable housing.

Shri Arun Jaitley Finance Minister of IndiaIn the Union Budget 2014-15, presented on July 10, 2014, the Honorable Finance Minster, Shri Arun Jaitley announced that:

“Long term financing for infrastructure has been a major constraint in encouraging larger private sector participation in this sector. On the asset side, banks will be encouraged to extend long term loans to infrastructure sector with flexible structuring to absorb potential adverse contingencies.  On the liability side, banks will be permitted to raise long term funds for lending to infrastructure sector with minimum regulatory pre-emption such as CRR, SLR and Priority Sector Lending (PSL).”

The reality is there are substantial risks associated with infrastructure at the construction phase, which requires flexible bank financing.  Post-construction, suitably structured long-term loans can be “taken-out” by long term lenders, such as infrastructure funds, pension funds, and insurance companies.  Therefore, banks need the flexibility to structure loans to mitigate risks as well as to ensure easy refinancing.

Infrastructure and affordable housing need relatively long term financing compared to the standard bank loan.  If banks finance such long term loans with short term deposits, they create a risky asset liability mismatch, as well as a need to maintain liquid assets to mitigate the risk of illiquidity.