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India looks to Raghuram Rajan for salvation

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RBI Governor Raghuram Rajan is facing a tough, ongoing balancing act of trying to stimulate growth while keeping inflation in check. RBI Governor Raghuram Rajan is facing a tough, ongoing balancing act of trying to stimulate growth while keeping inflation in check.
SummaryRajan's steadying voice of authority has given a boost to investor confidence.

the problems at once.''

India is suffering a host of economic problems: poor infrastructure and stubborn inflation that keeps interest rates high, dependence on imported fuel, a current account deficit due to low exports and high imports, and fragile confidence that has deterred business investment. Plus, the government's budget is in deficit thanks to costly fuel subsidies and the fiscal position is likely to deteriorate because of the looming cost of a new law guaranteeing food for the poor.

To make matters worse, many foreign investors had been pulling out of India and other emerging markets because of expectations the Federal Reserve would scale back its easy credit policy that had sent "hot money'' into riskier developing markets in search of higher returns. The Fed surprised many Wednesday by keeping the easy money going for now. Stocks in India and other emerging markets rebounded but the withdrawal of stimulus is only a matter of time and is likely to roil world markets again.

Rajan took office on Sept. 4 at a low point, after a month of plunging stocks and a week after the rupee hit a lifetime low of 68.8 against the dollar. He surprised almost everyone by immediately announcing short-term measures aimed at boosting confidence. He said that banks would be allowed to open new branches without going to the RBI for permission and offered a "swap window'' for banks holding US dollar liabilities to exchange them at a lower-than-market rate of 3.5 per cent; analysts at Barclays predicted the latter move could attract $10 billion in foreign currency inflows, bolstering the rupee and easing current account pressures.

The next day, both the rupee and the Sensex stock index surged, and the Indian media swooned. One commentary in the financial daily Mint depicted Rajan as both swaggering like a Bollywood star and flying through air like a super-hero.

The "Rajan effect'' may be short-lived, however, since India's fundamental problems remain and he is limited mostly to the blunt instrument of setting interest rates.

Plus, Rajan himself wrote in a recent article that the true solutions for the economy are making it easier to do business in India by improving infrastructure, easing regulations that slow down investment, reducing subsidies for fuel and reining in double deficits in the national budget and current account. These are all tasks that are the responsibility not of the Reserve Bank, but of the central government.

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