How Raghuram Rajan got Ben Bernanke goat

ENS Economic Bureau Posted online: Saturday, Apr 12, 2014 at 0000 hrs
New Delhi : Former US Federal Reserve chief Ben Bernanke took on Reserve Bank of India Governor Raghuram Rajan for his sharp criticism of the spillover effect of the US monetary policy.

Rajan had on Thursday called for more global coordination in monetary policy and the creation of a global “safety net” administered by a multilateral body such as the International Monetary Fund (IMF). These would avoid the impact of measures like the sudden expansion of global dollar supply and its withdrawal as the US Fed did and which made emerging economies go into a tailspin. Rajan made the comments in the context of the US Fed under Bernanke having increased the pace of withdrawal from quantitative easing this year.

India has been forced to rapidly build up its foreign exchange reserves to keep the rupee stable.

The RBI Governor took the stage alongside central bankers from the US, Europe, and Brazil at the high-profile event. “In a world where international liquidity can dry up quickly, the world needs bilateral, regional, and multilateral arrangements for liquidity,” Rajan said while addressing the Brookings Institution in Washington DC. But Bernanke, speaking to Rajan from the floor after the speech, said there is no evidence that emerging market economies would have been better off if the US had not resorted to quantitative easing. “(Your) speech just reflects the fact that you are very skeptical of unconventional monetary policies. You say that the rules of the game should prevent policies with ‘large adverse spillovers and questionable domestic benefits.’ If you have a different empirical assessment than I do, that in fact, emerging markets would be better off if they hadn’t been used, then you would have a different view.”

Rajan, a former chief economist at the IMF and professor at the University of Chicago Booth School of Business drew Bernanke’s ire for his policy prescription. Bernanke claimed he wanted to take Rajan “to task” for “ignoring money”. He said unconventional policies like the US Fed’s of increasing money supply increased demand in the economy, whereas exchange rate interventions like the tariffs of the 1930s were demand diverting. At its peak the Fed had pumped in $85 billion each month of additional money supply to boost demand in the US and other markets.

Rajan said this, however, increased cheap money for economies like India with foreign investors rushing in. When the tap is shut off the volatility in the emerging markets spike, as the same foreign investors pull their money back.

Charles Evans, president of the Chicago Federal Reserve was also critical of Rajan’s position. Seated with Rajan on the stage, ECB vice president Vitor Constancio too voiced his opposition. “I would not subscribe to the criticisms,” he said, noting that emerging economies were much closer to full employment than rich nations. Constancio said past efforts at global coordination failed in part because emerging economies refused to accept that their currencies would have to appreciate in the face of policy easing in developed world.