Tackling the eventual taper

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SummaryIndia should have a calibrated response to the eventual unwinding of the US’s unconventional monetary policy

The RBI Governor has shared his mind with the public. The growth assessment is subdued, and only some pick-up is expected on account of brightening prospects for agriculture and upturn in exports. Inflation, either measured by the WPI or CPI, is expected to be high during the year. To anchor inflation, the repo rate has been raised by 25 basis points while the marginal standing facility rate has been lowered by 75 bps to release liquidity in the system. This is a very well-calibrated move by RBI. The central bank will continue to be vigilant and is preparing a number of schemes and measures, with various committees announced earlier swinging into action.

Most importantly, in the mid-quarter review, there is a very candid observation, a recognition of the fact that postponement of unwinding of the US monetary policy is only a postponement. Governor Rajan has observed that there is a need for “bullet-proof national balance sheet and growth agenda” to inspire confidence in citizens and investors. There are two options available for such an agenda—one, coordinated approach and the other, India follows it, singularly.

Earlier this month, Prime Minister Manmohan Singh observed at the G20 Summit that there was a need for a coordinated approach between the member countries to address the issue of unwinding of the unconventional monetary policy. He had proposed a coordinated approach between the advanced and the developing countries, especially the BRIC nations. India was affected by a surge of capital flows from the loose monetary policy in advanced countries which, in some ways, helped to finance its current account deficit (CAD). In the last two months, with rising expectations of unwinding in the US, India had been affected by currency volatility. The problem, at least partially, was domestic with the CAD rising to 4.8% of GDP and gross fiscal deficit (GFD) to 4.9% in FY13. And now India is making efforts to restrict CAD to 3.7% and gross fiscal deficit to 4.8% in FY14.

In 2008, when the financial crisis hit the global economy, the International Monetary Fund (IMF) under Dominique Strauss-Kahn initiated a coordinated approach which became explicit in October 2008 when six major central banks simultaneously cut policy rates and the Fed Reserve authorised temporary swap lines to 14 monetary authorities. The most important consideration behind the IMF initiative, probably, was that the US, the largest shareholder of the IMF, was at the epicentre

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