12/27/11

The Hind : Col mn / C.R.L. Na a imhan : Flip-flop in comm nica ion

Opinion

Columns

C.R.L. Narasimhan

Flip-flops in communication
C. R. L. NARASIMHAN

The steps taken b the RBI

ill ha e to be in harmon

ith e isting macro policies

Af e a long pe iod of ilence, he Re e e Bank of India ook a n mbe of ep o check he fall of he ome of i ecen mo e ha e been in ig ing and o ome e en incon i en a ell. A a eg o comba he falling pee on an gen ba i i elcome.

pee. H

Ho e e , i i impo an o ake in o acco n he likel impac of ome of ho e mea e on he mac oeconom Boo ing fo eign e change flo in o India ( o a gmen ppl ) i no do b impo an , b pecific ep in ha di ec ion ill ha e o be in ha mon i h e i ing mac o policie . If he do no , he ma con e an imp e ion of de pe a ion, hich he go e nmen and he RBI o ld mo like o a oid.

Unfo na el , polic make migh ell ha e fallen in o ha ap. The go e nmen ha anno nced a n mbe of ela a ion ch a enhancing he ceiling on in e men in deb in men (co po a e bond and gil ) b fo e in i ional in e o , ed cing he lock-in pe iod fo fo eign in e men in inf a c e bond and emo ing in e e a e cap on e e nal comme cial bo o ing b Indian companie . Each of he e i ignifican b i elf
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The Hind : Col mn / C.R.L. Na a imhan : Flip-flop in comm nica ion

would probably have found a place in the economic calendar over the next few years.

The problem arises because of a possible miscommunication. These ought not to be projected as necessary, urg steps for rescuing the rupee at this juncture.

Since these measures have come at a time when overseas investors' belief in India's growth story has been falter the declining stock markets and, of course, the falling rupee bear testimony to this it is to be seen whether th would have the same impact that they would have had in more normal times.

Encouraging foreign capital flows into debt markets is fraught with risks, a caution that the RBI has been heed until now. There are existing concerns over the ballooning short-term external debt. Will not the greater leeway proposed Indian corporates to borrow from abroad increase the risks? NRE depo i and a bi age

The deregulation of interest rates on non-resident external accounts is intended to boost NRE deposits with Ind banks. The attraction is that these funds come in from abroad.

Banks in India are now permitted to offer their non-resident customers the same rates they offer to their dome customers. This opens the possibility of large-scale arbitrage: the overseas Indians can raise dollar loans at incr low rates from a bank abroad and deposit them in Indian banks under the NRE scheme to earn fabulous return interest difference can be very large even going up to 6 per cent. The risks are minimal. The NRE schemes ge guarantee repatriation although they do not cover exchange rate risks. (FCNR accounts are maintained in forei currency).

Past experience should warn us against relying on such deposits. They are known to flit in and out of India. Dra interest rate changes in India or abroad will impact immediately on the viability of the schemes built on arbitr Ta ge ing pec la ion

In a surprise move, the RBI clamped down on speculation in the forward foreign exchange markets. It has disal cancellation and rebooking of forward contracts, placed limits on hedging by traders and foreign institutional investors and reduced the amount of dollars that authorised dealers can hold overnight. In RBI's view, speculat had the effect of weakening the rupee

As soon as these measures were announced on December 15, the rupee reversed its decline but by the beginning following week resumed its declining trend.

Effective economic management, including exchange rate management, anywhere takes into account psycholog factors that influence market forces.

The quality of central bank communication to the markets has become crucial to the success of monetary and r policies. In India too, there have been occasions when policymakers have successfully talked up' the rupee's ext value. During the recent bout of the rupee's weakness, the statements of senior government and RBI officials th there are definite limits to intervention and that ,in any case, the central bank will not sell too many dollars' to the rupee, most probably undermined the central bank's belated defence of the rupee.

A more beneficial strategy would be to stress on the positives, which India still has in plenty. The economy mig faltering but even a sub-7 per cent GDP growth rate will still be commendable. Foreign exchange reserves are comfortable. The recent upward revision by Moody's, of three key Indian debt instruments, shows that the India's economic performance is not all that bleak. Keywords: Indian economy, rupee value, rupee stability, RBI policies, NRE deposits, currency value, macro policies, macroeconomy
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The Hind : Col mn / C.R.L. Na a imhan : Flip-flop in comm nica ion

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