Saturday, May 19, 2007

Righting the rupee

I wrote an article in Asian Wall Street Journal titled Righting the rupee.

Coincidentally, Jamal Mecklai wrote an opinion piece in Business Standard on roughly the same day with roughly the same ideas. Jamal's piece is, of course, much more fun to read than mine.

Adam Posen has a great oped on the issue of focus of the central bank. Also, see this by him.

In the AWSJ article, I mention Thailand as a reminder of what could happen if there is an effort to bring back capital controls. There also, reforms of monetary policy institutions appears to have taken place as a consequence of these problems: I believe that Bank of Thailand has been placed under the supervision of the Ministry of Finance (MoF) and the BoT governor will now serve for a fixed term.

The NBER paper on central bank transparency that I allude to is Dincer & Eichengreen, 2007.

2. You mention the Bank of England's independence via legislative fiat, although reform without legislation was your preference.

Gordon Brown surprised even the Bank by granting it independence in 1997. Inflation targeting, public board meeting minutes and the Inflation Report were already put in place by a Tory government suffering from the ERM crisis of 1992. That is, financial development had already happened, so credibility was paramount, more so for New Labour eager to shed its image of being soft on the currency.

Ditto with Volcker. The US abandoned its monetarist experiment of targeting the base because financial innovation eroded the statistical traction the Fed had on the monetary base. The only option left was to fix the price of money directly, which Volcker did to disastrous effect for the first time.

In both instances, financial innovation was the driver of change in monetary policy. What we have in India, on the other hand, is a change in the international desirability of INR-denominated assets, leading to volatility in the face of undeveloped domestic markets. This is a quintessential developing nation problem: flows come before the market can cope with them, so there's a premium placed on control.

It therefore seems a bit pointless asking the state for market development or reform when the objective is control. With the heavy hand of the fisc on the banking system, markets are obviated as a means of control.

It is only when some force, political or economic, loosens this grip, that you will see real market development. Domestic pressure, if anything, is in favor of the status quo. And internationally, well, let's just say financial repression doesn't seem to deter people from China and India. They keep coming, and largely on our terms. Whoever said globalization has eroded the power of the state...?

Please note: Comments are moderated. Only civilised conversation is permitted on this blog. Criticism is perfectly okay; uncivilised language is not. We delete any comment which is spam, has personal attacks against anyone, or uses foul language. We delete any comment which does not contribute to the intellectual discussion about the blog article in question.

LaTeX mathematics works. This means that if you want to say $10 you have to say \$10.