ISSN (Print) - 0012-9976 | ISSN (Online) - 2349-8846

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The Economy: A Post-Budget Perspective

The focus of this article is not so much the quantitative or specific aspects of the budget as some qualitative issues regarding the economy. It touches on some developing trends and, since the budget is the peg on which it hangs, refers to one or two specific proposals.

Does Monetary Policy Have Differential State-Level Effects?

The paper examines whether monetary policy has similar effects across major states in the Indian polity. Impulse response functions from an estimated Structural Vector Auto Regression (SVAR) reveal two sets of states: a core of states that respond to monetary policy in a significant fashion vis-à-vis others whose response is less significant. The paper attempts to trace the reasons for the differential response of these two sets of states in terms of financial deepening and differential industry mix.

Trade and Monetary Regionalism

There has been a marked tendency to treat trade and monetary regionalism independently and scant attention has been paid to the connections between the two. The conventional wisdom has been that trade integration must precede monetary integration. However, this 'trade-first' sequencing has recently come under scrutiny in Latin America and particularly in east Asia, which is actively considering if and how intra-regional monetary cooperation might be enhanced in parallel with ongoing steps towards trade integration. There are in fact some good reasons to question the 'trade-first' conventional wisdom.

Cautious, but Flexible

The RBI's latest monetary policy measures fall neatly into the policy framework pursued for the last five years with the objectives of maintaining a stable financial environment and strengthening the financial system and improving the transmission of monetary policy signals.

Evolving Monetary Policy in India

This paper reviews the process of monetary policy formulation, with some stylised facts monetary policy currently pursued. Issues concerning the objectives and conduct with reference to targets and the indicators are discussed. Some possible areas where future research on monetary policy could be focused are also suggested.

Structural Deterioration of Banking Development

The Reserve Bank seems to be stuck between the two stools of reform and facing structural disabilities. It is being forced to accept the trend towards 'universal banking', despite its expressed misgivings. Worse, serious structural deterioration has occurred in the pattern of banking development.

Interest Rate Defence of Exchange Rate

While the rationale for raising the interest rate to defend an exchange rate under speculative attack is well grounded in economic and financial theories, empirical validation of the effectiveness of such a policy stance has generally been difficult and is shrouded with conflicting findings. In India, besides forex market interventions and use of several administrative measures, the Reserve Bank of India has occasionally resorted to the high interest rate option during major episodes of significant pressures on the external value of the rupee. An empirical assessment suggests that one standard deviation shock to the call rate leads to rupee appreciation in the very second month. Similarly, for one standard deviation shock to net interventions, the exchange rate appreciates gradually by a few paise over five months. The impulse response also suggests that in response to one standard deviation shock the exchange rate appreciates by about 8 paise in the second month, but subsequently the exchange rate depreciates gradually, more than offsetting the initial impact of the hike in interest rate.

Volatility of Stock Returns

This paper investigates the volatility of stock returns in some Asian emerging markets in terms of the volatility of domestic and external factors. We found that both domestic macroeconomic variables and international variables are found to have explanatory power for stock return volatility. The evidence strongly suggests the presence of a significant contagion effect and integration of capital markets in this region. We also document that the role of government in terms of fiscal and monetary policy in the smooth functioning of the stock market is crucial in this region.

In Small Doses

The Reserve Bank of India’s monetary policy announcement for the first half of this fiscal year is very much on the expected lines. There are no dramatic pronouncements on the macroeconomic front – the governor had earlier already ruled out any reduction in the Bank rate or the cash reserve ratio – no big bang reforms, no new announcements on the recent stock market/banking fraud. Nothing to unnerve the markets or unsettle the economy. Instead the policy carries forward the overall reform agenda – albeit in fits and starts – even as it tries to plug the loopholes in the system that have come to light in the context of the latest scam. However, market observers looking to find some admission of regulatory lapse on the part of the RBI are likely to be disappointed. Apart from a brief mention that the policy is being “presented at a time when serious lacunae have emerged in the functioning of certain segments of the financial system”, there is no elaboration of whether the central bank’s own supervisory lapses – of the clearing house or of urban cooperative banks/ commercial banks – contributed to the market operators’ shenanigans.

Monetary Policy Underpinnings

The objective of this paper is to capture the historical perspective in respect of monetary policy underpinnings with particular reference to India, the limitations and constraints in pursuing monetary policy objectives and throw light on current mainstream economic thinking and perspective in the context of changing economic environment worldwide.

The Changing Monetary Environment

In the recent past the RBI has been using open market operations to sterilise the inflows of foreign capital so as to contain domestic monetary expansion. Due to a rise in the income velocity of base money this has created an incentive for the government to resort more to market borrowings from banks which has raised real interest rates and which exerts a depressing impact on the growth of economic activity along with creating pressures for the inflation rate to increase. The changed environment calls for a reduction in government expenditures which, whilst reducing interest rates and enhancing the level of economic activity, will also help nudge the economy to a lower inflation level.


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