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Showing posts with label global macro. Show all posts
Showing posts with label global macro. Show all posts

Thursday, August 20, 2026

Foreign equity investment in India: A stall, not a reversal

by Sanjuktha Athreya.

In 2026, many have expressed concern about the flight of foreign portfolio investors from India. Examples of this alarm are found here, here, here, here, here and here.

Capital flow reversals are an important concern in the literature on international capital markets. However, to understand whether recent outflows represent a meaningful change in foreign investor participation, we need to look at both flows and stocks. The flow is the net investment by foreign investors in a given time period, and the stock is the size of their position in India on a certain date. In this article, we put the two together to ask how large recent flows are relative to the stock of foreign investment. We find that foreign portfolio investment in India has been rather stable.

Concerns about foreign investment

Foreign investment has long been the subject of debate in India. Concerns have included the possibility of foreign investors exiting en masse during periods of stress, their influence on price discovery, and the advantages they might have relative to domestic investors. Over the years, policymakers have ventured to slowly remove many state-induced constraints upon international economic engagement.

Some literature examines the behaviour of foreign institutional investors in Indian equity markets. Patnaik and Shah (2013) find that foreign investors favour larger and more liquid stocks and, after accounting for asset allocation, perform relatively poorly in security selection. Patnaik, Shah and Singh (2013) find little evidence that foreign investors destabilise Indian equity markets during periods of stress. More recent work finds evidence of positive-feedback trading and stock-level herding among foreign investors, though not at the market level during extreme conditions (Mukherjee and Tiwari, 2022).

The flow view

Net FPI flows measure the value of purchases minus sales by foreign portfolio investors over a period, reported by the depositories at various frequencies, including daily. This data is timely, free, effortless to use, and hence dominates the public discussion.

Figure 1. Quarterly net FPI equity flows.

In Figure 1, we show quarterly flows measured in trillion rupees. The blue bars are quarters in which there was net investment into India, and the red bars are those where there was a net exit from India. The biggest exits seen are about Rs.1 trillion to Rs.1.5 trillion rupees within a quarter, and they have all arisen in the period after 2022. This is the factual foundation of the gloom reported above.

The importance of the stock

What can be more interesting is the position of all foreign investors, in the magnitude of their ownership of Indian equities. More than quarter-to-quarter fluctuations of inflows and outflows, this reveals the view of India as seen by foreign investors. This can be viewed in two units: The stock of foreign ownership of Indian listed equities measured in trillion rupees, and the share of Indian listed equity ownership that is in the hands of foreign investors measured in per cent.

In the field of international capital markets, economists have developed rich insights into the behaviour of foreign investors. This knowledge is oriented around both flow and stock measures. Three important concepts here are home bias (French and Poterba, 1991) which is about the slow process through which investors step out from their comfort zone of investing domestically, capital flow reversals which are a sustained decline in the level of foreign claims (Calvo, 1998; Forbes and Warnock, 2012), and net investment positions (Lane and Milesi-Ferretti, 2007) which build external asset and liability positions for a country.

Constructing the stock

We use the ProwessDx Equity Ownership Pattern database together with NSE trading data. For each listed firm, at each quarter-end, we take the number of shares held by foreign institutional investors in a non-promoter capacity, as reported in the quarterly shareholding pattern disclosures. We multiply this by the firm's closing price on the last trading day of the quarter, which gives the market value of foreign holdings in that firm. Summing across firms gives the aggregate stock. We do this in two ways: for all listed companies and for the Nifty members only. Unlike flow data, constructing this series requires some additional work, and the shareholding pattern is only reported once a quarter, which helps explain why this information is not widely seen in the discourse.

The FPI equity stock, 2008-2026

Figure 2. (a) Rupee value of FPI equity holdings. (b) FPI equity holdings as a share of market capitalisation.

The left pane shows the rupee value of the stock, for all listed firms and for the Nifty 50 separately. Foreign holdings stood at roughly Rs.5 trillion in 2008 and now exceed Rs.75 trillion at the end of the sample. There is no large retreat by foreign investors, taken as a whole, we do not see a capital flow reversal.

Early in this data, the two lines shown in the left pane were close to each other. Foreign investment was largely in the Nifty companies. By about 2022 we see foreign investment has spread to a substantial extent to non-Nifty companies. This indicates declining home bias.

Panel (b) reports the same facts as a share of market capitalisation. The share rose through the 2010s, peaked around 2020-21, and has fallen since. This fall has been steeper for the broader universe of listed firms, from roughly 21 per cent to 16 per cent. For the Nifty 50, it has fallen from roughly 26 per cent to 22 per cent.

There was a period till about 2015 where home bias was declining (i.e. the foreign ownership share was rising). After that, it first stalled, and from about 2020, home bias has increased.

Summarising this in jargon, there has been no capital flow reversal; foreign investment in India is exceptionally stable; however, we are in a period of worsening home bias against India.

Quarterly movements expressed against the stock

The right way to think about the flow of net portfolio investment in a quarter is not in absolute terms (measured in trillion rupees) but as a share of the stock of foreign ownership. What percentage of their holding did they add or remove in a given quarter?

Figure 3. Quarterly net FPI flows as a percentage of the outstanding stock.

The alarm bells that have gone off in India, about a net outflow of Rs.1 trillion in a quarter, pertain to less than 2 per cent of the outstanding stock. Foreign portfolio investment in India is fairly stable, with only small movements in and out in a given quarter.

Across the entire eighteen years that are shown in the graph above, which includes the global financial crisis, the taper tantrum and the pandemic, the largest single-quarter net exit amounts to 3 per cent of the stock. Foreign portfolio investment in India does not show the maladies of a sudden stop or a capital flow reversal.

Conclusion

In recent months, there has been a certain amount of "the sky is falling down" commentary based on rupee values of foreign portfolio investment, which have often shown values like a trillion rupees exited in one quarter. India has grown substantially over this period, and so has the stock of foreign investment in its equity markets. A Rs.1 trillion quarterly outflow therefore needs to be seen against a much larger underlying stock than it would have represented in the past. Our findings here summarise into:

  1. Foreign portfolio investors have supplied a lot of capital to India: the market value of their stock of listed equities now stands at about Rs.75 trillion. On this base, a one-quarter exit of Rs.1 trillion is not large.
  2. There is a decline in home bias in that foreign portfolio investment has broadened considerably beyond the Nifty companies.
  3. Home bias first reduced till about 2015. After that, the share of foreign ownership stalled, and then it has gone into a decline. We are in a phase of worsening home bias against India. In this sense, there appears to be a retreat in India's financial globalisation.
  4. Foreign portfolio investment has been rather stable, with a one-quarter exit that seldom exceeds 2 to 3 per cent of their ownership in India. There has been no sudden stop and no capital flow reversal. However, there has been a stall in the growth of FPI relative to the size of the Indian equity market.

Bibliography

Capital flows and capital-market crises: The simple economics of sudden stops, Guillermo A. Calvo, Journal of Applied Economics, Vol. 1, No. 1, November 1998.

Capital flow waves: Surges, stops, flight, and retrenchment, Kristin J. Forbes and Francis E. Warnock, Journal of International Economics, Vol. 88, No. 2, 2012.

Investor diversification and international equity markets, Kenneth R. French and James M. Poterba, American Economic Review (Papers and Proceedings), Vol. 81, No. 2, May 1991.

The external wealth of nations mark II: Revised and extended estimates of foreign assets and liabilities, 1970-2004, Philip R. Lane and Gian Maria Milesi-Ferretti, Journal of International Economics, Vol. 73, No. 2, November 2007.

The investment technology of foreign and domestic institutional investors in an emerging market, Ila Patnaik and Ajay Shah, Journal of International Money and Finance, Vol. 39, December 2013.

Foreign Investors under Stress: Evidence from India, Ila Patnaik, Ajay Shah and Nirvikar Singh, International Finance, Vol. 16, No. 2, September 2013.

Trading Behaviour of Foreign Institutional Investors: Evidence from Indian Stock Markets, Paramita Mukherjee and Sweta Tiwari, Asia-Pacific Financial Markets, Vol. 29, 2022.

FPIs pull out Rs 88,180 crore in March, Press Trust of India / NDTV Profit, 22 March 2026.

Explained: Why global brokerages are hitting the panic button on India. FII exodus and oil shock raising alarms?, Economic Times, 31 March 2026.

FPI exodus in four months of 2026 surpasses all of last year, Economic Times, 30 April 2026.

FPIs pull out Rs 60,847 crore in April; 2026 outflows hit Rs 1.92 lakh crore, Business Standard, 1 May 2026.

FII Sell-off: Why Foreign Investors Sold Rs 2.06 Lakh Crore in 2026, Outlook Money, 10 May 2026.

FPIs continue to exit India: June equity outflows hit Rs 49,340 crore, Times of India, 2 July 2026.


Sanjuktha Athreya is a researcher at XKDR Forum. The author would like to thank Anjali Sharma, Ajay Shah, Susan Thomas, and Shubho Roy for their valuable feedback and discussions.

Monday, September 08, 2025

A narrow path for India and China: de-risking engagement for a cautious peace

by Ajit Ranade, Nitin Pai, Ajay Shah.

The relationship between India and China is at its most difficult point in decades. A foundation of political and military hostility, marked by violent border clashes and a strategic rivalry across Asia, makes any notion of a simple partnership untenable. China’s authoritarian state, its ambition for regional dominance, and its use of economic power as a tool of statecraft present clear and present dangers to India’s national interest. In this environment, a policy of naive engagement is not optimal.

Yet, a policy of complete economic decoupling is equally problematic. China is central to the global economy, an important force in manufacturing, technology, and trade. There is a shared border with India, and with the two countries adding up to 40% of humanity, there are natural opportunities for many kinds of partnerships between Chinese persons and Indian persons. A self-imposed isolation from the world’s second-largest economy carries an opportunity cost for us in India. We need capital to fuel our growth and build infrastructure. The current policy framework reflects this unresolved tension. Measures such as Press Note 3, which mandate government screening for all investment from bordering countries, have hindered new streams of Chinese capital. As of April 2024, 200 of the 526 FDI proposals received under PN3 were awaiting approval. This has its merits, but we do need to find some unfreezing as part of long-term strategy.

The policy question is not whether to engage, but how. How can India interact with a hostile neighbour in a way that captures economic benefits without incurring unacceptable security risks? The debate has been trapped in a false binary between total engagement and total isolation. The intellectual challenge is to design a third way: a policy of "quarantined engagement," where economic inputs like capital can be accepted while the associated strategic risks are neutralized at the point of entry. As Adam Smith said, Trade with barbarous nations requires forts, trade with other nations requires ambassadors.

This article resurrects old ideas that help find this path. We argue in favour of a highly constrained, de-risked channel for Chinese capital into Indian infrastructure. This is not a call for a broad reopening or a return to a more optimistic era. It is a pragmatic, narrow, and carefully controlled mechanism designed for an adversarial relationship. The core proposition is that it is possible to surgically separate Chinese capital from the control, technology, and geopolitical leverage that usually accompany it. Under a strict framework of safeguards, Chinese investment can be transformed from a strategic threat into a simple financial commodity, one that can serve India’s developmental needs while building, over the long term, a small but tangible stake in a stable peace. Such an arrangement would be win-win for both sides: This is good for China also.

Any credible proposal for engagement must begin with a clear-eyed assessment of the risks. The case for a narrow channel of economic contact is not born of optimism, but of a sober understanding of the multifaceted threat China poses. These threats are not discrete; they form an integrated strategy where economic, technological, and military actions are mutually reinforcing. Any Indian counter-policy must therefore be equally integrated.

Strategic and military hostility

The foundation of distrust is geopolitical. The 2020 Galwan Valley clash was the most violent manifestation of a pattern of Chinese military aggression along the Line of Actual Control. This hostility is not confined to the Himalayas. Beijing’s strategic support for Pakistan, its expanding military and economic footprint in nations across South Asia -- from Sri Lanka to Bangladesh and the Maldives -- and its explicit of achieving uni-polarity in Asia are all inimical to Indian interests. This sustained pattern of behaviour demonstrates that China is not a benign competitor but a strategic adversary.

The weaponisation of economic interdependence

China has repeatedly demonstrated its willingness to use economic interdependence as a coercive tool. India’s reliance on Chinese supply chains for critical goods, from active pharmaceutical ingredients (APIs) to electronic components, creates a significant vulnerability. Beijing has the ability to "pull the plug" on these supplies, as it has done with certain restricted exports, weaponizing trade to exert political pressure.

This risk is compounded by China’s internal economic troubles. A structural problem of overproduction, rooted in weak domestic demand and a collapsing real estate sector, has led Beijing to manage its economy by exporting its unemployment. A flood of cheap, often subsidized, Chinese goods—from solar panels to electric vehicles—threatens to overwhelm and destroy nascent Indian industries. This is not merely market competition; it is a strategic economic offensive that requires a defensive response.

The technological trojan horse

The third vector of threat is technological. There are well-documented security hazards associated with Chinese electronics and software. Global security agencies have long held concerns that telecommunications equipment and other hardware contain embedded spyware or backdoors, giving the Chinese state a potential lever for espionage or sabotage. Chinese manufacturers often do not provide full specifications of algorithms, making it nearly impossible to screen for malicious code. This creates an unacceptable risk, particularly in critical infrastructure. The recent weaponisation of social media platforms like TikTok to conduct influence operations in Taiwan serves as a stark reminder of how apparently civilian Chinese technology is deployed to achieve Chinese state objectives.

An old idea for a harsher time

The three problems described above are not separate challenges. A state that exerts military pressure on the border is the same state that will use economic supply chains and technological dependencies as levers of power. A policy that addresses only the trade deficit or only military preparedness is incomplete. A sound strategy must be holistic, designed to neutralize all three threat vectors simultaneously. We think there is a clear possibility in infrastructure financing.

The proposal to channel Chinese capital into Indian infrastructure is not new. Its intellectual foundations were laid over a decade ago, in a very different geopolitical climate. In 2013, one of us (Ajit Ranade) first articulated the synergy that exists between China’s problem of a chronic current account surplus, and India’s infrastructure financing gap. At the time, China’s reserves stood at around \$3 trillion, much of it earning low yields in US treasury bonds. India, meanwhile, needed over \$1 trillion to fund its infrastructure development. A direct investment alliance was proposed, suggesting that even a small fraction of China’s capital -- just 1% annually -- could make a material difference to Indian infrastructure investment.

This economic logic was developed by one of us (Nitin Pai), with the idea that such investments should be directed towards specific, low-risk assets. The insight was that "concrete infrastructure, such as highways and bridges," would be in both countries' interests, providing China with decent long-term returns and India with low-cost financing. Crucially, such assets "do not undermine national security, nor do they lock us into Chinese technology." The key insight was that while India should be open to such investment, it must never be treated as an "ordinary economic relationship".

These ideas were conceived in an era of cautious optimism, a time when some observers still spoke of an "evolving maturity" in the relationship. The reality of the subsequent decade, with enhanced nationalism and militarism in China, with the journey from Doklam to Galwan to Operation Sindoor on the Indian relationship, makes us more cautious. However, the failure of that optimism does not invalidate the underlying economic logic. If anything, the fundamental asymmetry has grown more pronounced. China’s internal economic model has produced an even greater capital surplus in search of stable returns, while India’s infrastructure needs have expanded on its path to becoming a \$5 trillion economy.

The logic of the transaction is stronger than ever. What has changed is the risk assessment. Therefore, the task today is not to discard this old idea but to harden it. It must be adapted for the present moment of hostility by encasing it in a robust framework of security protocols, transforming it from a tool of hopeful engagement into a mechanism for de-risked, pragmatic co-existence.

A framework for safe capital: The three locks

For Chinese capital to be acceptable, it must be rendered strategically inert. This requires a framework of safeguards -- a system of "three locks" -- designed to strip the investment of any potential for geopolitical leverage, espionage, or strategic entrapment. This transforms the nature of the transaction from a potential vector of hostile influence into a simple commodity purchase, where India is procuring capital under tight conditions.

The first and most critical safeguard is the separation of ownership from control. Under this rule, Chinese entities may act as pure financial investors -- either as equity holders or debt providers -- but they should be explicitly and legally denied any role in the management, operation, or maintenance of the infrastructure asset. Their role should be purely passive and financial.

The rationale for this lock is to prevent the weaponization of critical infrastructure. A cautionary tale comes from Europe’s recent experience with Russia. Gazprom, the Russian state-owned energy giant, was not just a supplier of gas to Germany; it also owned and operated critical gas storage facilities on German soil. In the months leading up to the 2022 invasion of Ukraine, Gazprom strategically ensured these storage tanks were left empty, deliberately manufacturing an energy scarcity within Germany that amplified Russia’s blackmail potential and left Germany more exposed. Allowing a strategic adversary operational control over critical infrastructure is an invitation to disaster. The operational lock is designed to prevent such a scenario from occurring in India.

The second safeguard is a ban on Chinese-origin technology within the funded asset. This means no Chinese-made hardware, software, sensors, control systems, or any other networked components. All procurement for technology, from surveillance cameras on a bridge to the software running a water treatment plant, should be sourced from approved, non-hostile jurisdictions.

This lock neutralizes the threat of technological Trojan horses. The global security establishment has consistently raised alarms about the risk of embedded spyware and hidden backdoors in Chinese-made equipment, from telecom networks to military sub-assemblies. Given the opacity of the technology and the near impossibility of conducting foolproof screening, the only truly secure approach is a blanket prohibition. The technology lock ensures that an infrastructure asset funded by Chinese capital cannot become a listening post or a vector for cyber-attacks.

The third safeguard is a risk-based, incremental approach to implementation. Engagement must not begin with a broad opening, but with a carefully phased and probationary process. The initial phase should be strictly limited to what can be termed "dumb infrastructure" -- assets with minimal technological sophistication and low strategic vulnerability. This category includes projects like roads, bridges, irrigation canals, and water and sanitation plants. These are physical assets where compliance with the operational and technology locks is easiest to monitor and enforce.

Only after a decade or two, during which Chinese investors demonstrate consistent and verifiable compliance with the first two locks, could India consider expanding the scope to more complex areas. This phasing creates a crucial probationary period, allowing India to observe behaviour, build confidence in its regulatory capacity, and retain an off-ramp if Chinese entities fail to adhere to the rules. India’s existing FDI screening mechanism, institutionalized in Press Note 3, provides a legal and administrative precedent for managing such a structured, approval-based process. More work is required on the Indian side to achieve institutional quality in such screening.

A better bet for Beijing

A skeptical reader might ask: why would China agree to such restrictive terms? The answer lies in a rational assessment of its own self-interest. From a purely financial perspective, a de-risked, passive investment in Indian infrastructure is a far superior proposition to many of the high-risk ventures China is currently entangled in across the developing world. China has a big and structural current account surplus: the economic system suppresses consumption and lacks good investments at home, so capital must go out. Their choices for destinations for this capital -- from financial assets in the West to infrastructure assets in developing countries -- are all problematic.

China’s flagship Belt and Road Initiative (BRI) has a deeply troubled track record. Beijing is now navigating the uncomfortable role of being the world's largest official debt collector. An astonishing 80% of its overseas lending portfolio in the developing world is supporting countries already in financial distress. Overdue repayments are soaring, and many borrower nations, which have poor credit ratings and unstable political environments, are at high risk of default. The result is that for the next decade, China is set to be more of a debt collector than a banker to the developing world, facing a "tidal wave" of repayments from countries that simply cannot pay.

Investing in India under the proposed framework offers a different risk-return profile. India has maintained its investment-grade credit rating for nearly two decades, has a consistent history of honoring its sovereign and commercial commitments, and possesses a stable political system anchored by some rule of law. While returns might be more modest than the nominal rates on risky BRI loans, they would be predictable, secure, and denominated in a relatively stable currency. For Chinese state-owned banks and funds seeking to diversify their portfolios and secure safe, long-term yields, a passive financial stake in the growth of one of the world's fastest-growing major economies is a rational choice. The proposal is not a concession asked of Beijing; it is a superior financial opportunity offered to it.

Conclusion: Building a stake in stability

This proposal is not a policy of friendship. It is a strategy of pragmatic, self-interested, and de-risked engagement designed for a world of wary rivals. The immediate goal is to build Indian infrastructure with low-cost capital. But the long-term strategic objective is more subtle and more significant. It is to give China a tangible, financial stake in India's economic success and, by extension, in regional stability.

In international relations, particularly between rival powers, the creation of mutual interdependencies -- even highly constrained ones -- can act as a stabilising force. The current India-China relationship is almost entirely a zero-sum game, where a gain for one side is perceived as a loss for the other. This framework introduces a small but meaningful positive-sum element. By creating a channel where Chinese state-owned entities can profit directly from India’s continued economic growth, it adds a new variable to Beijing’s strategic calculus. It introduces a direct financial cost for actions that might destabilize India and the region. Chinese ownership of \$100B of bridges in the Indian Himalayas changes the logic of a next invasion.

This will not resolve the fundamental strategic conflict between the two nations. It will not end the border dispute or erase the deep-seated mistrust. What it can do, however, is build a small constituency within the Chinese state whose interests are aligned with a stable and prosperous India. Over a decade, as such a portfolio could potentially grow, the cost of conflict for Beijing would rise. This is the long-term payoff: not a chimerical peace, but a measure of calculated, self-interested restraint born from a tangible stake in the status quo. It is a modern, economic form of deterrence. To dream of a better peace over a ten-year or twenty-year horizon, we must lay the foundation through safe, feasible, and mutually beneficial steps today. This is one such step.

Bibliography

Bambawale, Gautam. Modi’s SCOpe of influence, The Times of India, 30 August 2025.

Pai, Nitin. How India should deal with economic investment from a politically hostile China, The Quint, 5 May 2020.

Ranade, Ajit. China can fund India’s infrastructure", Livemint, 13 May 2013.

Shah, Ajay. A pivot to China?, 2 September 2025.

Shah, Ajay and Ila Patnaik. The case for trade barriers against Chinese imports, Business Standard, 24 June 2024.

Monday, August 18, 2025

The economies of Russia and Ukraine in the war

by Rounak Hande, Ayush Patnaik, Ajay Shah, Susan Thomas.

The war that began in February 2022 had substantial implications for the economies and measurement systems of both countries. Long-running wars, or strategic wars, are wars of attrition. These are shaped to an important extent by the working of the economy. The outcome on the battlefield relies on the ability of the state to foster a well functioning economy and produce or obtain adequate resources including soldiers and their supporting civilian teams, their food and health care, and their materiel.

The traditional understanding of strategic war, with its focus on the functioning of the economy and the productive capacity in the defence industrial base, has evolved and changed in this war. A new age of standoff weapons has given attacks deep inside Russia, the likes of which did not happen even during World War II. The sanctions imposed upon Russia reflect a new level of capability in economic statecraft, which was not in play in any important conventional war prior to this. These developments in the conduct of war encourage us to observe the facts as we see them unfold, and not go by our traditional knowledge about strategic war.

Understanding the true state of the economy is thus an important element of understanding the Russian invasion of Ukraine. Conventional economic measurement faces difficulties in this environment, which has encouraged an alt data literature in bring pieces of the puzzle together. A new paper Shedding light on the Russia-Ukraine War by Rounak Hande, Ayush Patnaik, Ajay Shah, Susan Thomas contributes to this literature by carefully harnessing night time light data to obtain fresh insights into the war. The major ideas from this paper are summarised here.

The difficulties of measuring economic activity through nighttime lights data

Alas, the simple economists' dream, of using nighttime lights data as an easily observed GDP proxy, has been belied. In previous work (Patnaik et. al. 2021), we found important gains over the conventional NASA/NOAA or World Bank data, through a bias-correction algorithm that thinks better about clouds.

There are unique problems in working with nighttime lights data for Russia and Ukraine. These include the far longitudes, gas flaring, and aurora borealis. We carefully solve each of these questions and develop a sound methodology for the measurement of nighttime lights in places like Russia and Ukraine.

Aggregate economic impact

At an aggregate level, how are the economies of Russia and Ukraine faring, after the war started?

The aggregate nighttime lights for Russia shows roughly zero growth from 2022 to 2025. As the Russian economy has been turned into a war economy with a significant increase in military expenditures as a share of GDP, the stagnation of nighttime lights suggests a decline in the civilian economy.

Figure 1: Time series of aggregate nighttime lights of Russia (measured in January):

Most Russian gas production takes place in the Yamal-Nenets Autonomous Okrug, and economic activity there has been strong, which runs against the conventional understanding that Russian gas exports have declined sharply.

With Ukraine, there was a sharp decline from 2022 to 2025. For both countries, 2023 was a low and then there has been some recovery.

These measures focus on the boundaries of the two countries. Their interpretation for the military aspects of the war needs to reckon with the extent to which relevant production capacity extends beyond the border. In Russia's case, North Korea is an important site for war production. In the case of Ukraine, the defence industrial base and the economy of Europe is available, as long as relatively few voters in Europe support Russia.

The economy near the front

Close to the battlefront, we expect a combination of the impact of fighting, evacuations, blackouts, destruction of productive capacity, and the presence of troops and their logistics tail.

The oblasts where the war is taking place, and Crimea, have fared surprisingly well. Perhaps the nighttime lights associated with the logistics tail of armies in action -- which cannot quite be interpreted as economic activity in the way that nighttime lights data is normally interpreted -- exceeds the adverse impact of destruction of the productive economy.

The footprint of standoff weapons

Further away from the battlefront, there would be an adverse impact upon the economy through the new level of presence of stand off weapons. Modern war is unique in the extent to which a trench is hard to overcome, but it is not that difficult to hit a factory that is 200 kilometres in the rear. Hence, we expect to see a footprint of standoff weapons deep into the backfield.

Figure 2: Difference in pre-war and post-war growth rates:

A growth reversal is visible in locations within Russia that are hundreds of kilometres inside the Ukraine border. The radiance at the regions of Russia near Ukraine contracted by 10-58.8%, while eastern regions maintained growth of 8-18.56%.

Reversal of gains from trade

At various elements of the Russian international border, the natural economic geography had unfolded in response to the proximity to economic activity across the border. The adverse impact upon the local economy, the distortion away from the natural organisation reflecting proximity to the economy across the border, is likely to vary based on the intensity of new restrictions imposed by the bordering country.

A growth reversal is visible in the map above, at locations near the border with European countries -- which have imposed sanctions more completely -- as opposed to the border with other countries.

Changing economic geography

Over the many years of the ongoing war, the economic geography has been reshaped through government and private decisions. Understanding this map of shifting economic geography is important from the viewpoint of understanding regional economics, and for resource allocation in long range strikes and in air defence.

Figure 3: Shifting centre of gravity of the Russian economy (map):

The Ukrainian economy has shifted West, away from the war zone. The Russian economy has shifted East, away from Europe and the war. There was an eastward shift of the economic center of Russia by 245 kilometers between January 2019 and January 2025. We are able to see maps of levels and growth rates of subnational nighttime lights that yield fresh insights into the working of the Russian economy.

Conclusion

Nighttime lights data is one tool in the arsenal of economic measurement. In combination with other pathways to measurement, this gives fresh insights into the Russian and Ukrainian economies, and insights into this important strategic war. We are at the edge of the seat, waiting to do our January 2026 update.

Reproducible Research

For transparency and reproducibility, all data processing and analysis for this study can be replicated using our open Google Colab notebook. The notebook allows users to download satellite data, run the code, and generate all results and plots in a fully reproducible cloud-based environment—no manual installation of libraries or dependencies required.

The vector boundary data and the notebook will be made available here:

GitHub repository
Google Colab notebook

 

The authors are researchers at XKDR Forum, Bombay.  

Thursday, April 10, 2025

Be you ever so high, the markets are always above you

by Ajay Shah.

Purposive state action is fraught with error. Human and social systems are poorly understood and contain nonlinearities, so there is a law of unintended consequences. Grand schemes go wrong. What works well is a humble approach, of crossing the river by feeling the stones, in an environment of expertise. There are two rings of containment of power, that help address a regime which diverges from this approach.

Two rings of check-and-balance

The first ring of containment of power is the checks and balances of the political system. Liberal democracies work by dispersing power, by using ambition to counteract ambition. This curtails mistakes.

In some situations, these things break down. Power becomes concentrated, which induces mistakes. The second ring of containment is the financial markets.

  1. When Liz Truss was Prime Minister in the UK, the markets pushed back. The 30-year yield went from 3.6% to 5.1%. The GBP dropped 7.6%. The FTSE fell 7%. Ultimately, this led to her being ousted in 44 days.

  2. When Tony Blair and the labour party won the elections on 2 May 1997, the financial markets expressed skepticism. When a new government is greeted with a higher interest rate, this immediately curtails spending power. This pushed the new government to go through with a group of responsible decisions. On 6 May 1997 (i.e. 4 days after winning), they announced independence for the Bank of England coupled with the creation of an independent Debt Management Office so as to unburden monetary policy from the debt management conflict of interest. On 2 July, in the budget speech, they were cautious in their spending commitments. All these actions were crafted because the second ring of containment impinged upon the political leadership.

  3. Vijay Kelkar has long argued that the stock market crash of 17 May 2004 helped encourage Sonia Gandhi to choose the team of Manmohan Singh, P. Chidambaram and Montek Ahluwalia as the UPA economic policy leadership, which delivered the economic successes of 2004-2011.

  4. James Carville worked for Bill Clinton. A rough analogy into Indian politics would be Amar Singh. He once said: "I used to think that if there was reincarnation, I wanted to come back as the President or the Pope or as a 400 baseball hitter. But now I would like to come back as the bond market. You can intimidate everybody." This awareness tempered and shaped the early actions of the Clinton presidency, which worked out as a successful period for the American economy. 

  5. It is starting to work out similarly with the Trump Tariffs. The wheels of global general equilibrium started turning on 2 April, with forward looking forecasts embedded in financial market prices. Financial players everywhere asked: How well will the US economy work? Is the US the safe haven, with sound institutions, that we thought it was?

    The 10 year US Treasury went up from 3.9% to 4.5%. The 30 year bond briefly went up to 5%. The S&P 500 dropped 12.1%. Safe haven seekers turned to Germany, and yields on government bonds there fell. Larry Summers said on 9 April:  "We are being treated by global financial markets like a problematic emerging market".

    In my column in the Business Standard of 3 March, I had said that in the US, the first ring of containment has broken down --
    The US is in a constitutional crisis, with a failure of checks and balances, with the inability of the judiciary, the legislature, the electoral system, the agencies, the special counsel and the press to rein in a strongman.
    and that the second ring of containment would have to do its work --
    Market discipline will then impinge upon Trump and the MAGA world, and we hope, atleast partly kick them into shape. Be you ever so high, the markets are always above you.

Market discipline is not perfect. In the field of sovereign risk, we know well that the market tolerates a lot of fiscal misbehaviour for a long time, and then abruptly pulls access. Similarly, I have argued that the Indian equity market fares poorly on macro forecasting while it does well on micro-forecasting. The wrath of the market involves caprice. The key point here is that markets do speak truth to power, over and beyond the checks and balances of the political system.

A development perspective

The yearning for raw power is there in many people. On 9 April 2025, Donald Trump described his decision process: "Instinctively, more than anything else. I mean, you almost can’t take a pencil to paper. It’s really more of an instinct, I think, than anything else".  Montagu Norman, Governor of the Bank of England said in 1930: "I don't have reasons, I have instincts". For a country to have a high level of per capita GDP, this primeval yearning for power needs to be contained.

The first ring of containment is the checks and balances in the political system (e.g. converting the Bank of England into an inflation targeting central bank with dispersed power in the Monetary Policy Committee). A good financial system constitutes the second ring of containment that checks such impulses, that induces better decisions by the political masters.

From an Indian perspective, checks and balances are the essence of the growth journey. The first ring of containment is relatively well accepted (Kelkar & Shah 2022). More attention is required upon the second: a financial markets system that would induce checks and balances, that would matter enough to reduce the incidence of mistakes in public policy.

Consider government borrowing. When government borrowing takes place as a set of acts between consenting adults, where voluntary lenders negotiate a price on the bond market, this creates the checks and balances in the episodes narrated above. In India, about 95% of government borrowing is mobilised coercively (Chitgupi et. al., 2024), which limits the role that the financial markets play in reshaping the incentives of the state. 

Consider the exchange rate. The checks and balances in the episodes narrated above involved a starring role for the exchange rate. When poor countries run a government controlled exchange rate, this channel of influence is limited [EiE Ep67 Floating exchange rate], which sustains poverty.

In India, a disproportionate burden of adjustment falls upon the equity market as other markets adjust less.

In today's mainstream thinking, financial development is seen as integral to the journey of economic development through its allocative function.  `Finance is the brain of the economy', `Wall Street tells Main Street what to do'. The financial system should occupy `the commanding heights of the economy' and make all the detailed allocative decisions about firms, technologies or industries which receive investment [EiE Ep21 The beauty of finance]. A good financial system performs the allocative function better than `industrial policy' can [EiE Ep89 Industrial policy]. 

But finance plays another important function as well: that of reshaping the checks and balances of the state, or being the second ring of containment for power. The second ring of containment matters most when the first ring of containment -- checks and balances of the political system -- falters. These two lines of reasoning encourage us to place financial sector development at the centre of the growth journey [EiE Ep57 How to do development].

There was a time in India when we were making progress in building a financial system. This has faltered (Shah 2023;  EiE Ep71 The Journey of Finance). We need to get back to the knowledge building and community building that began in the early 1990s in this field.

Wednesday, June 23, 2021

Exchange Market Pressure: Data release Version 2.1

by Madhur Mehta.

Girton and Roper (1977) introduced the concept of Exchange Market Pressure (EMP). They defined it as the measure of total pressure on exchange rate, some part of which is resisted through central bank interventions, while some is indicated in exchange rate changes.

This concept was intruiging, and many researchers have tried to devise methods that would yield sound EMP measures. Some developments to EMP measurement were made by Eichengreen et al. (1996), Sachs et al. (1996), and Kaminsky et al. (1998). These developments have had their own share of well documented problems with respect to crisis threshold and arbitrary choice of weights.

An innovative pathway to measuring EMP was introduced in Patnaik et al. (2017). On May 27th, 2017, the authors published a cross-country EMP data set which covered 139 countries for the period, January 1996 till May 2017. This was followed by the second release of the same data set, which covered 135 countries for the period, January 1996 till November 2018, which was released on April 6th, 2020.

This article unveils the third release of the cross-country EMP data set. This covers 75 countries for a period of 23 years, starting from January 1996 till December 2019. The data is available on our EMP project page. In the interests of reproducible research, all the three datasets are available for download from this page.

Updation to December 2019 has come at a cost, of a reduced number of countries. For versions 1.1 and 2.0 of the dataset, we were using data from Datastream. Now we have switched to IMF data. This has given the reduced country coverage.

On the EMP project page, we have .csv files for the datasets. We also show the (tiny) R code that is required to load the data and make graphs.

We now show some pictures for the EMP for a few countries.

Example: EMP for China

The above figure plots China's EMP measure. In the years prior to the Lehman collapse and Chinese financial crisis, the renminbi was under a persistent pressure to appreciate. However, after the crisis, the renminbi has been under a consistent pressure to depreciate.

Example: EMP for India

In India's case, before the Lehman collapse, rupee was under pressure to appreciate. However after the Lehman collapse, rupee EMP went through high volatility with considerable number of months of high depreciation pressure. The EMP estimates for the taper tantrum line up nicely with a careful analysis. Since 2018, there has been persistent pressure to appreciate.

Example: EMP for Russia

Before the collapse of the Lehman Brother's, rouble experienced persistent appreciation pressure. However, in all months after the collapse and prior to taper tantrum and conflict in Ukraine, rouble saw high EMP volatility. Since 2018, rouble has been under pressure to appreciate.

Example: EMP for Brazil

Prior to taper tantrum, brazilian real had a highly volatile EMP, with months that saw high depreciation pressure. However, since 2018, real has been under a persistent depreciation pressure.

References

Desai, M., Patnaik, I., Felman, J. and Shah, A., 2017. A cross-country Exchange Market Pressure (EMP) Dataset . Data in Brief.

Eichengreen, B., Rose, A., Wyplosz, C., 1996. Contagious Currency Crises , Technical Report. National Bureau of Economic Research.

Felman, J., Patnaik, I., and Shah, A., 2017. Improved measurement of Exchange Market Pressure (EMP). The Leap Blog.

Felman, J., Mehta, M., Patnaik, I., Shah, A., and Sharma, B., 2020. Release of v2.0 of the Exchange Market Pressure dataset associated with PFM 2017. The Leap Blog.

Girton, L., and Roper, D., 1977. A monetary model of exchange market pressure applied to the postwar Canadian experience. American Economic Review, vol. 67, pp.537-538.

Kaminsky, G.A., Lizondo, S. and Reinhart, C.M., 1998.Leading indicators of currency crises. Staff Papers-Int. Monet. Fund (1998), pp. 1-48.

Patnaik, I., Felman, J. and Shah, A., 2017. An exchange market pressure measure for cross country analysis . Journal of International Money and Finance, 73, pp.62-77.

Sachs, J., Tornell, A., Velasco, A., 1996. Financial crises in emerging markets: The lessons from 1995. National Bureau of Economic Research.


Madhur Mehta is a researcher at the National Institute of Public Finance and Policy.

Monday, April 06, 2020

Release of v2.0 of the Exchange Market Pressure dataset associated with PFM 2017.

by Josh Felman, Madhur Mehta, Ila Patnaik, Ajay Shah, Bhavyaa Sharma.

The idea of Exchange market pressure (EMP) was introduced by Girton and Roper (1977). It suggests measurement of the total pressure on the exchange rate, some part of which is visible as the change in the exchange rate, and the remainder is resisted by currency trading of the central bank. Many researchers have worked on devising EMP estimators, the most prominent of which are Eichengreen et al. (1996), Sachs et al. (1996), and Kaminsky et al. (1998). EMP measures have been utilised in thousands of papers in international finance and macroeconomics.

In Patnaik et al. (2017) we proposed a new method for calculating EMP which attempts to overcome the well known problems of conventional EMP measures. Alongside this paper, a cross-country dataset was released, which ran from January 1996 to May 2017.

We have done a second release of this dataset, which carries these series forward to November 2018. In this dataset, which is numbered as v2.0, we have 135 countries. On the web page, we have a CSV file of the dataset, and also the few lines of R code that get you going on using it. The URL of this web page will be stable, and the next release will come out with further updation of the dataset in a few months.

In the v1.1 dataset, due to lack of annual macroeconomic data for some countries, the rho values were computed with erroneous confidence bands, which consequently affected the EMP values. We have corrected this error.

In the following paragraphs we compare version 2.0 of the new measure of EMP further for four countries, namely, India, China, Russia, and Brazil against the conventional EMP measure of Eichengreen et al. (1996). This helps give intuition about the gains from the new measure.

Example: EMP for China



In the figure above, the two grey rectangles in the conventional EMP measure plot for China are periods where the value of the EMP measure are near infinity. The new EMP measure does not have this problem.

The new EMP measure shows that in years prior to the Lehmann Brother's collapse, there was persistent appreciation pressure on the RMB. After the Lehman default, a sudden shift in the exchange market pressure can be seen. These phenomena are not present in the conventional measure.

A significant event for China occured on 12 June 2015, when a financial crisis began. The new EMP measure shows this depreciation pressure better than the conventional measure.

Example: EMP for India



In India's case, the Lehman default in 2008 brought about a sharp depreciation in the value of indian rupee. This story is nicely told in the new EMP measure. The conventional measure suggests that there was a switch from depreciation to appreciation pressure at that point.

Prior to the taper tantrum of 2013, the entire year of 2012 had high volatility in the rupee exchange rate. In the tantrum, there was high pressure on the rupee value to depreciate. These facts are well-represented in our measure of EMP, and consistent with a detailed understanding of that period, as opposed to the conventional one.

Example: EMP for Russia



In the case of Russia, the conventional measure fails to show the magnitude of the effect of the Lehman default, the taper tantrum and the Russian invasion of Ukraine in 2014. The new EMP measure has the correct features: that these events imposed depreciation pressure on the rouble.

Example: EMP for Brazil



In the case of Brazil, the Lehman default and the taper tantrum of 2013 imposed high depreciation pressure on the Brazilian real, in the new EMP measure, but not in the conventional measure.

References


Eichengreen, B., Rose, A., Wyplosz, C., 1996. Contagious Currency Crises, Technical Report. National Bureau of Economic Research.

Patnaik, I., Felman, J. and Shah, A., 2017. An exchange market pressure measure for cross country analysis. Journal of International Money and Finance, 73, pp.62-77.

Desai, M., Patnaik, I., Felman, J. and Shah, A., 2017. A cross-country Exchange Market Pressure (EMP) Dataset. Data in Brief.

Girton, L., and Roper, D., 1977. A monetary model of exchange market pressure applied to the postwar Canadian experience. American Economic Review, vol. 67, pp.537-538

Sachs, J., Tornell, A., Velasco, A., 1996. Financial crises in emerging markets: The lessons from 1995. National Bureau of Economic Research.

Kaminsky, G.A., Lizondo, S. and Reinhart, C.M., 1998. Leading indicators of currency crises. Staff Papers-Int. Monet. Fund (1998), pp. 1-48.


We thank Shekhar Hari Kumar and Namita Goel for their work on this release.

Monday, November 07, 2016

Expressing a view on a Trump win

by Parikshit Kabra.

A spectre is haunting global capitalism - the spectre of Donald Trump. A big question looming over the global financial system today is: Will Donald Trump make it? Each of us have views about whether he will. What will the short term impacts upon financial markets be, if Trump wins? What position should one adopt, if one believed that Trump would win?

Decision markets


The simplest answer is: One should trade on a decision market to express the `Long Trump' view. This is hard to do for people constrained by capital controls. And, for most people, the problem is not so much about expressing a Long Trump view as the problem of understanding the vulnerabilities in their portfolios.

Impact on the USD


The USD has risen by 2 to 12% in the year following all US presidential elections from 1980 onwards. A Trump win could boost the USD due a 'safe haven' effect. With fears about the world economy, many investors could withdraw their investments in Emerging Markets.

If Trump loses, there could be two effects working in opposite directions. Reduction about fundamental risk in the US would be good for the dollar, but this would not be augmented by a safe haven effect.

Gold


A Trump win will likely lead to a rise in Gold prices, as buyers of gold are passing a vote of no-confidence in civilisation. When George W. Bush won the 2nd time, there was a sharp surge in the price of gold and it rose to an all-time high.

Conversely, if Trump loses, gold prices may go down somewhat as that fear subsides.

Nifty


If Trump wins, there will be greater uncertainty for the world economy, VIX will go up, flows into EMs will go down, and that's bad for Nifty. Conversely, if Trump loses, there would be a small positive impact upon Nifty.

The Indian IT industry


The Indian IT industry is vulnerable to changes in immigration laws in the US. With Trump threatening to make immigration more difficult, make visa applications harder and also possibly introducing an outsourcing tax, a Trump victory should imply a fall in the IT stocks across the board.

The adverse impact of Trump would be greater for low value firms that do more body shopping. One way to setup a trade would be to sort the IT companies into top and bottom quartile by revenues per employee. The trade to employ would be to be long the high revenue-per-employee firms and short the low revenue-per-employee firms. This would yield a hedged portfolio where all other macroeconomic and industry news cancels out, and does well if Trump wins.

Pharmaceutical companies


While many American analysts believe that a Clinton presidency will mean a drop in pharma stock prices due the price pressure she might bring, the case might be the opposite in India. Some traders believe that the Indian pharma companies, which provide generic drugs for the US market, are gaining from the introduction of Obamacare (which has been pushing for greater use of the cheaper, generic drugs). Trump, who has promised to repeal this Act, may reduce the pressure to use generics and thus hurt Indian pharma companies.



Parikshit Kabra is curious about financial markets at Bain Consulting.

Friday, June 28, 2013

The drama of monetary policy

Ben Bernanke's statement


Everyone interested in the world economy should watch Bernanke's recent speech and the press conference:


(Switch to full screen, it works well). Here is the base URL which collects together all the materials about the Fed's announcement. The `exit strategy principles' are in the June 21-22, 2011 meeting.

The announcement reinforces the sense that the US economy is healing. The US Fed is keen to have inflation of 2% and believes the NAIRU is around 6.5%. Hence, once they come into the range where unemployment has achieved a few strong improvements and is trending to get below 6.5%, while price stability has not been compromised in that inflation expectations are still at 2%, they will start unwinding the extreme expansionary stance of monetary policy that has been in place in recent years. All through, there is no fixed calendar about what the Fed will do when. There is a clear articulation of the decision rules that will be employed, about how future data releases will generate future policy.

Why did the world see this badly?


One element is the shift from an unclear sense that the Fed will keep buying $85 billion a month of bonds for a long long time, to a specific sense about how this pace of purchases will decline and ultimately end, surrounding a specific number -- 7% unemployment amidst strong economic growth (see Eric Morath, Michael S. Derby and Sudeep Reddy in the Wall Street Journal). The QE has to clearly end before you start raising rates. There is a certain amount of confusion between the 6.5% threshold about interest rates and 7% threshold about QE; some interpreted the new 7% threshold as replacing the previous 6.5% threshold, which is not the case.

The second key issue seems to be in the reading of the data. The FOMC has shifted to a more optimistic view about how the US economy is faring. The FOMC decision is the consensus of its 19 members, many of whom are top economists, and all of whom are backed by top quality researchers. However, some believe that the FOMC's view -- that there are signs of improvement in employment and output growth in the US -- is too optimistic. As an example, see Paul Krugman. Suppose the Fed is wrong; suppose they are starting to think about getting away from QE a bit too early. In that case, the FOMC decision is bad news.

On the other hand, Bernanke is careful to emphasise over and over that he is not making a statement about future paths of policy, but only about the decision rule that will drive policy. He is making statements about how policy will behave in future dates conditional on what the data looks like at future dates. If, in principle, the US lurches back into sluggish conditions (low inflation, high unemployment), the policy rule will push back towards monetary easing.

Let's make no mistake about it: Quantitative easing at the zero interest rate lower bound is a messy world, when compared with the clean operation of inflation targeting under normal times. I felt that Bernanke and the Fed are doing a good job of navigating this messy landscape.

Implications for India


  1. The US economy is healing. This is great news, as the US remains the biggest country of the world. This will impact on short-term growth everywhere in the world through spillovers of demand from the US, and help long-term growth worldwide by increasing the rate of expenditure on R&D in the US. Specifically for India, this is good news, as India has two big trade exposures to the US -- directly (Indo-US trade) and indirect (Indo-Chinese trade).
  2. For countries that peg their exchange rate to the USD, there is no monetary policy autonomy -- their monetary policy is set by Bernanke. This announcement tells them something about the horizons over which their monetary policy will tighten. This matters for (say) China or UAE who peg to the dollar, but not for India, which has a floating exchange rate and thus has monetary policy autonomy.
  3. Some believe that loose monetary policy in the US sets off a search for returns by taking risk and by investing in illiquid securities, particularly by US absolute return investors. A different way of seeing the same phenomenon is to focus on long positions outside the US that are financed by borrowing in the US; the risk-reward profile of these positions has now become a bit less attractive. We have reason to believe that such phenomena might be present, but the proposition remains controversial. To the extent that such effects are present, the FOMC announcement suggests that in 2014 and 2015, US investors will start pulling investments away from risky and illiquid assets. This is mildly negative for India, given that India is an emerging market (i.e. high risk) and that many securities in India are relatively illiquid.
  4. The US 10 year rate would go up after this announcement (as it should). This slightly reduces the interest rate differential between the US and Indian interest rates. This should adversely impact on capital flows to India and thus yield INR depreciation. I feel the magnitude of effects is small: The US 10 year rate went up from 1.95% on 21 May (before the previous Bernanke announcement) to 2.32% on 19 June. This is a small change in the interest rate differential for India.
There is another way of thinking about all this which helps us better understand what happened in India, which related to the large Indian current account deficit. When interest rates in the US are zero, just about everyone who aspires for the slightest return is forced to invest abroad in the search for yield. Bernanke has unveiled a story which suggests that from late 2013 and 2014 onwards, this will gradually change. This means that money which was leaving the US will stay home. This will imply that countries with a large current account deficit will need to become more attractive in order to attract the same amount of capital. This will require a mix of currency depreciation, increased interest rates and capital account decontrol in India.

Implications for India's monetary policy process


Watching US monetary policy in action inevitably makes one think about the monetary policy process in India. I am charmed by the extreme precision and clarity of the FOMC statement, the underlying staff quality, and the functioning of the MPC. For us in India, it teaches us how monetary policy effectiveness is achieved through clearly articulating a policy framework and through commitment to it. The phrase `multiple objectives and multiple instruments' that is used in India is a euphemism for the absence of a framework.  We should aspire to do better. The Indian Financial Code will begin the journey to a strong, autonomous, technically sound and accountable RBI.

Sunday, July 01, 2012

A tale of two economies and two currencies

by Percy S. Mistry, in the Financial Express.

A fortnight's visit to China in April, to understand better the progress it has made with public and corporate governance, was startling in its revelations. Having been to China years earlier, to advise the State Commission on Reform of the Economic System (Ti-Gai-Wei) in 1988-1994, it was amazing to realise in retrospect that, over the last two decades, much of the advice given then, had actually been taken and applied.

That was in sharp contrast to experience in India. The advice provided there -- e.g. through the Mistry Report and innumerable interactions with MoF and RBI over the years - was applauded by the private financial system for which it was intended (less so by public financial institutions which need to be privatised). But such advice was taken and implemented by MoF and RBI only grudgingly and at the margins of insignificance in terms of impact.

What was most strikingly apparent during the visit was the resolution and purposefulness with which China and its institutions are governed. That applies to public institutions and agencies at various levels of central, provincial and municipal governance, state-owned enterprises (SOEs), and the rapidly growing number of private Chinese companies; whether domestically owned or joint ventures with multinationals involving both public and private partners. It was no surprise to confirm that China is much better governed at central, state and municipal levels than India; where public governance is deteriorating by the day. But, that Chinese companies now seem better and more responsibly governed than their Indian counterparts came as a rude shock!

The impression of corporate and public governance in China now being well ahead of India (and a lot of what now mistakenly passes for the 'developed world' as well) emerges despite the occurrence of the Bo Xi Lai/Gu Kai Lai affairs that were unfolding at the time. One almost got the sense of careful orchestration and stage management of these 'affairs' by two competing factions for influence within the ruling Politburo and its supporting Standing Committee as the future leadership/management team that takes over in October was being put in place.

To be sure the case is invariably made that such resolution and purpose is usually (or can only be) exemplified by a totalitarian state like China, rather than a democratic state like India. After all, China is unhindered by the cumbersome processes of democracy. It has yet to provide many of the personal and human freedoms/rights provided in much of the world and in large emerging countries like India. Yet, despite the correctness of this perception, one cannot help but feel that blaming the Opposition, parliamentary process and democracy, as GoI invariably does routinely (to explain its incompetence and loss of nerve for losing the plot on macroeconomic management), stretches the excuse a bit too far.

One wondered after the China visit whether India is the world's largest democracy as it always claims, or whether it is the world's largest abuse of democracy. Abuse: because of the make-up and mind-set of its parliamentarians and political class, and because of the characteristics of the poor and destitute electorate that engenders, propagates and perpetuates at each election such a dysfunctional polity with such destructively counterproductive tendencies, habits and behaviors.

China still has to cross the Rubicon of political democratisation and full extension of human rights taken for granted elsewhere. Until it does so, the world is right to be sceptical (if not perturbed) about its inexorable ascendancy into a position of global hegemonic power. But one gets the sense (almost with certainty) that China -- in its own imitable way and in its own time unhurried and unbowed by external pressures -- will develop a 'democratic' or 'quasi-democratic' model that suits its purpose and characteristics.

Learning hard lessons from Russia, where it is clear in retrospect that economic and political liberalisation were carried out in the wrong sequence and in the wrong manner, China will do so without destabilising itself in the way that Russia did. The Chinese leadership has no desire to repeat what happened in Russia - i.e. the emergence, after a period of total confusion during the Yeltsin era, of a KGB-controlled/inspired kleptocracy under Putin's leadership. That kleptocracy has now replaced the econo-political apparatus (and power) of the former communist state. Russia's situation has evolved in a manner that, if one thinks about carefully, has some disturbing indirect parallels with 'liberalization' in the Indian case.

The Indian public-private kleptocracy (a peculiarly Indian type of PPP) that has emerged in India post-1991 reforms, has not involved the membership of a repressive state intelligence apparatus, as in Russia. India has never had an intelligence apparatus worthy of the name or of any note. The only threat it poses (hopefully but not assuredly) is to Pakistan. That too is an ineffectual, minuscule threat given how poorly Indian intelligence (if that is not an oxymoron) is organised, funded and conducted. But, the Indian kleptocracy that has emerged after 1991 has certainly involved core relationships between established Indian political dynasties and large corporate houses (especially newer ones) that emerged after the Emergency.

Those corrosive relationships have become deep-rooted and taken hold in various avatars at central and state levels. At each of these levels they involve different business houses and different political dynasties; some of which have become organised medium-scale businesses in their own right, specialising in unique forms of rent extraction.

Taken together, they have resulted in Indian corruption becoming an organised mega-industry post-1972, from the localised handloom cottage industry that it was in the 1952-72 era. That mega-industry has its own codes, institutions, intermediaries, processes and lexicon (peti and khokha). It has resulted in a unique form of crony capitalism, favouring those business houses in India that originated mahacorruption and have since become its principal beneficiaries.

Indeed, such corruption has become embedded in the Indian economic system. It is so essential to the 'functioning' of its post-1991 quasi-market, improperly liberalised economy -- where the grant of licenses and inexplicable asymmetries in regulation play such a key role in introducing anti-market distortions and subsequent market failures -- that one now sees the visible damage being done to the functioning of the economy as ham-handed attempts are made to root it out.

One could make a good case that, in part, the slowing down of the Indian economy, and the rapid decline in corporate investment following the 2G-scam, is the result not only of macro-economic mismanagement and poor judgement by the FM/MoF, but also because corruption can no longer be relied upon by corporate houses to get things done in the way they once were. If the people (politicians, bureaucrats, regulators and police) a corporate house 'buys' -- through corruption in the political and bureaucratic systems, to retain its strategic and tactical advantages over its competitors in its main markets - can no longer be relied upon to deliver the goods, then what is the point of taking risks that simply cannot be managed?

Corruption is not only an Indian phenomenon. It occurs in China; possibly to a greater extent. Its totalitarian regime has not expunged it, although it pretends to have. Petty corruption at lower levels of officialdom is neither as pervasive nor as predatory as it is in India. But at the upper reaches it certainly seems omnipresent. Indeed most Chinese (in the public and private sectors) suspect that members of the Politburo and Standing Committee are engaged in concealed corruption on a scale that might make Indian corruption seem amateurish.

Corruption in China arises (and is fuelled) from pervasive state ownership of large public manufacturing, exporting, service and transport enterprises, of public construction companies that have benefitted from massive public spending on infrastructure (of which 10-15% of all contracts is allegedly accounted for by kick-backs), from public ownership of the banking system, and over $3 trillion in reserves that are increasing by 10% annually. On that amount of reserves, over $1-2 billion a day can easily be salted away via accounting errors and omissions and through improperly accounted-for effects of supposed daily exchange rate fluctuations or mark-to-market losses on sovereign bond purchases.

Rumored public estimates of proceeds transferred abroad by the top leadership in China invariably range from $100-150 billion over the last five years. If one extrapolates from that figure the proceeds of corruption at lower levels of governance (especially at municipal levels where the granting of land leases is the major source of leakage), figures of around $1 trillion over the last 5-10 years do not appear as outlandish as they might.

Certainly the ostentatious wealth displayed by Chinese political and business families abroad lends substance and credence to these estimates, in the same way that the lavish life-styles and expenditures of expatriate Russians in London give credence to its own kleptocratic state.

Yet, despite the functioning of both the Chinese and Indian economies being profoundly affected by corruption (of different sorts) the growth and resilience of the Chinese economy does not appear to have been as adversely affected by it as has been the case in India. Instead, quite the reverse! The Chinese economy is displaying extraordinary resilience in the face of externally generated headwinds that are slowing down its dynamic export machine. All the talk about hard and soft landings for the Chinese economy seem moot after the April visit. China has managed to orchestrate a reasonably soft landing with growth slowing to < 8% levels with China switching gradually to a domestic-consumption led rather than export-led growth strategy.

But it takes time for a super-tanker the size of China with its $6-7 trillion economy to change course and reverse gears. The single most effective instrument to induce and accelerate such a change - i.e. opening its capital account and floating its currency to result in more rapid market-driven appreciation of the Chinese Yuan (CNY) or Renminbi - has been eschewed as a policy tool to bring about more rapid switching.

Over the last two years the strength and resilience of the Chinese economy, in the face of the worst global economic and financial crises the world has experienced in nearly a century, have been remarkable, as reflected in its continued build-up of reserves. These now amount to over $3.2 trillion -- despite the impact of the post-Lehman financial crash of 2008 and the rapid deterioration in the economic circumstances of its two largest export markets: i.e. the US and EU. This massive build-up of surplus capital, which it seems unable to use for its own needs, has led China to open its currency market through administrative measures.

The April visit suggested that China is deeply concerned about using exchange rate adjustment as a policy tool, fearing that doing so would destabilise its labour and wage markets. After all the key Chinese imperative to ensure its success as an exporting power has been to manage (manipulate?) its exchange and wage rates so as to import jobs from, and export goods to, the rest of the world for as long as the rest of the world permitted China to get away with it.

And, so far, the rest of the world has done that. In the process, China has built up gargantuan reserves which are likely to grow at 10-20% annually even if its trade account comes into balance. Such unprecedented, large global reserves and the way in which they are managed -- perversely reflecting the limitations and dysfunctionality of China's state-owned financial system -- now pose an economic and political threat to the rest of the world. A continued build up reserves at the same rate as before would be intolerable.

Consequently, China has arrived at the stage where it has no option but to liberalise its currency market and export capital a little more easily in one way or another. It is choosing to do so through administrative measures such as bilateral CNY swaps rather than via traditional open market measures. These measures lead to a number of interesting interim possibilities before full and traditional capital and currency market liberalisation is undertaken.

Until this month, China had focused CNY swaps in local currencies of major emerging market trading partners, and not with developed market partners such as the US and EU. But, a couple of weeks ago, China announced that it would do CNY:JPY swaps with Japan, a developed and large trading partner. Partial capital account liberalisation is also being attempted through gradual opening of the CNY (dim-sum) bond-market in Hong Kong. That market has taken off faster than the Chinese authorities seem comfortable with.

What are the implications of the latest Chinese measure to introduce CNY:JPY swaps? They are not likely to be significant immediately as few internationally traded contracts are denominated in either CNY or JPY.The same arrangement for CNY:USD or CNY:EUR would have been more globally significant and led to CNY internationalisation more quickly.

However, the question raises some interesting possibilities where China-Japan, China-Asean and Japan-Asean trade is concerned. Triangulation on trade and trade-related long term investment among these three large trading blocs/players (more if one includes Korea and Taiwan) holds out interesting possibilities for the growth of Asian markets in regional currency trades and derivative hedges.

Also, Japanese multinationals are major investors in Chinese export production, which is linked to their own export production for global markets, in innumerable and intricate ways. If the CNY:JPY arrangements stabilise the influence of currency fluctuations on such bilateral and pass-through trade then the CNY will benefit and internationalise faster.

How rapidly the CNY becomes an international currency like the USD depends initially on how the Asian/Asean markets perceive movements in the CNY and JPY in the short, medium and long term. As a long-term hold, the CNY seems more attractive than the JPY. The Japanese yen is intrinsically a weak currency issued by a very heavily indebted country that is dying slowly demographically, and is a waning global economic power in relative terms. The opposite is the case for China and the CNY. But long-term currency holds are for investors not traders. And China is denying the world full market access to probably the most significant currency numeraire for long-term investment over the next 30 years.

In the short and medium term, it is difficult to predict what will happen to the value of the CNY relative to other currencies (especially USD, EUR and JPY) because of administrative intervention. If currency markets were left alone the CNY would appreciate significantly against all three; despite the arguments being made that the CNY has found its real effective equilibrium rate and does not need appreciation.

Anyone who believes that does not understand currency markets. Right now the JPY is an international currency that seems to be overvalued, taking Japan's underlying fundamentals and economic prospects into account. Yet it is widely held in global central bank reserves though used to a more limited extent than should be the case for Japan's trade contracts with its various trading partners which, unfortunately, are still denominated more in USD than in JPY.

The Chinese authorities could of course internationalise the CNY faster and more efficiently by opening up their capital markets in a phased fashion; making the CNY at first (up to 2016) a partially and then (2017 and beyond) a fully convertible currency. They are doing it instead in a clumsy, administratively burdensome fashion in the belief that going that route will result in more 'control' over the pace of internationalization.

A key concern is that this administrative approach (akin to the route that Indian bureaucrats invariably prefer in the bizarre belief that their control results in better outcomes, despite evidence to the contrary) will lead to a series of significant anomalies. They will create distortions of the kind that usually arise with administrative intervention and an aversion to letting markets do what they do best -- i.e. price discovery. Those anomalies and distortions could damage the world at a time when the global economy is still quite fragile.

Yet the CNY is heading towards becoming a global currency, perhaps second in importance to the USD over the next 20 years and even more important than the USD thereafter. That process is as inexorable as it is inevitable. Indeed that outcome has been delayed too long. For the world's second largest economy, and its second largest trading economy, to continue having a closed capital account, and a non-convertible currency with a fiat-determined price, is an intolerable eccentricity that has damaged the world and provides an unfair structural advantage to China. Oddly, China has been permitted by the world trading community to play by its own rules to its own advantage (and to the detriment of the rest of the world) for too long by asserting the right to control the most significant price affecting its trade with the rest of the world i.e. the price of its own currency.

In an open economy global trading model, world trading patterns, and consequently global investment patterns, as well as global production location and market share, are all supposed to be determined/equilibrated (i.e. with trade, current and capital account surpluses and deficits -- or imbalances -- being sorted out) by markets and not by administrative interventions; with market forces being left to adjust all prices, including currency prices, that affect global trade.

When China respects the notion that market prices should determine the prices of all inputs and outputs that make up the cost of its production, but then asserts the right to control a key price (i.e. the price of its currency), which in turn affects the price of imports from China by other countries, it violates a fundamental precept of the open economy global trading model. The sustained violation of that principle for two decades has in large part been responsible for bringing the global economy to its knees, while allowing China to accumulate extreme reserve surpluses that now pose a fundamental political and economic threat to the rest of the world.

In the post-Bretton Woods world, China is the most egregiously anomalous case of a country (misusing the developing country argument) becoming as significant as it is in the world economy without being obliged to open its capital account and make its currency convertible. All the other rising economies in the 1960s and 1970s (Germany, Japan and several smaller European economies), 1980s and 1990s (Korea, Singapore, Taiwan, some Asean and most Latin American economies) made their currencies convertible and opened their capital accounts.

They did not suffer any of the kind of damage that China claims it would suffer if it did the same. Essentially what China seems to be asserting through its currency management policy is the divine, inalienable right to import jobs from, and export manufactures to, the rest of the world indefinitely by manipulating the price of its currency. That cannot be permitted to continue given the devastating impact such a policy has had on the rest of the world. The CNY must be internationalised sooner rather than later in a market-oriented manner.

If that is so for the CNY then what is the future of the INR? As the next largest emerging global economy after China shouldn't the INR follow a similar trajectory? Until last year many astute commentators envisaged the INR taking its own place in the world, following the CNY as an increasingly significant trading currency. They thought at first that the INR would become a littoral/regional (2015-2020) trading currency and later (2020 onwards) a globally significant trading and reserve currency.

But the dreadful mess that the UPA-2 coalition and central government have made of the Indian economy over the last 24 months, and the shattering of confidence in India on the part of both domestic and foreign investors, has been an object lesson in confirming that India seems incapable of coping with success for any length of time. India seems instead to be more inured at coping with prolonged failure. It seems to know how to cope with that better attitudinally.

Therefore the INR is unlikely to emulate the CNY as a global trading or reserve currency for quite some time yet. Instead the INR is now seen as a temporally if not structurally weak currency that can barely hold its own value, leave alone become a serious trading or reserve currency in the foreseeable future.

Contrary to assertions by the FM, PM, RBI and UPA-2 leaders, none of the wounds that India is suffering from, and have inflicted on the INR, have much to do with negative global influences or Europe. At most those factors may have had only a marginal impact on growth and inward investment. The damage done has been mostly self-inflicted.

The really devastating impact of MoF/FM misjudgement and malfeasance has been on overall investment and in not relieving mounting supply-side constraints sooner. The FM in particular has played a leading role in convincing investors in India and around the world that India is no longer worth investing in. That impression has been reinforced by aggressive but injudicious posturing by the FM/MoF, goaded by their tax hawks, about the 'losses' India suffers from its DTAs with supposed tax-havens (such as Mauritius) and its contradictory if not absurd positions on applying GAAR retrospectively; and attracting the derision of the world at large.

Immense damage has been caused by this failure of judgement, obtuseness and obstinacy in the vindictive vendetta that has been conducted against Vodafone in particular, and foreign firms in general, on the capital gains tax issue. No mention is made at all about the tax gains (direct and indirect) as well as employment gains that have been derived from inward FDI and about the losses that would be incurred if such FDI flows ceased - as they now seem to be doing.

If GoI/MoF were so concerned about revenue losses to the exchequer, from FDI that escapes capital gains taxation, the PM and FM would have done better to look more closely at their neighbours in parliament and state legislatures. They could apply more vigorously and impartially laws on assets disproportionate to income. That approach would provide them with a triple-whammy. It would deal holistically with the phenomena of black money, corruption and tax evasion/avoidance, all at the same time. The revenue raising possibilities from that source would make Vodafone look trivial by comparison.

Had GoI/MoF done that they would have drawn more effective public attention to the generation of black money which official India is exerting every sinew to evade doing in the most clumsy fashion, knowing that to take serious action on that issue would be to indict virtually the entire political class in the country and bring in to the black money net most corporate leaders as well.

The egregious and severely damaging misjudgements on the tax issue, and the mismanagement of the Indian macro- economy since the change of leadership of the Finance Ministry in 2009, have introduced the kind of uncertainty into investment decisions that now make banana-republics and places like Rwanda and Congo seem almost sagacious in comparison with India.

How could this have happened? The answers seem obvious in retrospect. The political and bureaucratic leadership of the post-2009 Finance Ministry appears to have been childishly naive and clueless about how finance or economics actually work. All of India, and corporate sycophants dependent on the state-owned banking system for liquidity and long-term loan largesse, have been worshipping a false god -- as we seem to do relentlessly. Look at how we worship supposed corporate titans with feet of clay. It would be funny if it were not so tragic that one needs to screw up a country before one becomes an eligible candidate for that country's Presidency!!

Compounding the problem of gross malfeasance in short-selling India as an attractive long-term investment destination, GoI's top leadership appears to have as little clue about what leadership or good governance is all about. The other big beasts in the Cabinet (i.e. the Ministers of Home, Defence and External Affairs) all seem to be in the wrong jobs that play to their weaknesses rather than their strengths. As a consequence, GoI and India have lost all credibility at home and abroad. The impression they convey is of gross incompetence and surprising insouciance.

Being clueless seems widespread and endemic. It goes beyond characterising what now seems to be a sorry excuse for a crippled government that needs to be put out of its misery. At the top political leadership level in the UPA, Madam Sonia and Master Rahul Gandhi also appear to have no clue about anything, if the results of recent state elections are to be judged dispassionately.

They and their sycophants in the leadership of the Congress Party (simply a monarchy in drag) still believe in an India that should be managed politically by hand-outs, subsidies and populist sops that break the Union and state budgets. They do not yet believe in sustainable long-term development generating growth of >8% for the next few decades based on productive public and private investment of between 30-35% of GDP. Nor do they believe in reducing poverty through productive and meaningful private employment generation rather than on NREGA type income subsidies and hand-outs. They would rather that, at election time, the poor voted for them out of gratitude for hand-outs, than because employment was generated by private companies investing in the economy that could not be visibly attributed directly to them.

Their attitudes and supposed 'leadership' make proper macro-economic management by anyone almost impossible. They still do not believe in continuing with structural reforms that widen the distance between the polity and the economy, thus limiting the amount of damage the former can do to the latter through negligence, false ideologies about how the poor can be helped, populism and plain economic ignorance.

They do not believe that significant reforms are needed, along with an urgent programme of ambitious privatisation, beginning with Air India, extending to state-owned companies in telecoms, transport, minerals, natural resources, manufacturing, services (such as transport and tourism) and most of all privatising the state-owned financial system. It is through the SOBs that many of the weaknesses of the Indian economy are aggravated and exacerbated. The SOBs are also the conduit for exercising the kind of political influence that results in the kleptocratic quasi-market economy that has emerged in India post-1991; through an inimical but pervasive public-private partnership (PPP) between political dynasties and large business houses.

Taken together, the top leaderships in MoF, GoI and UPA -- individually and collectively -- are the PROBLEM, not the solution. Once that diagnosis is accepted, a cure can be found. Until then one can but hope that the next election brings more succour to India than is the case now.

What needs to be done urgently is to revive domestic and foreign investment and growth in the Indian economy. Given the rapidly deteriorating state of public finances, a widening current account deficit, a collapsing Indian rupee, and the entrenchment of structural inflation, which it will take prolonged tightness of monetary policy to control, GoI's room for manoeuvre is limited. But there are options to be exercised. The first is to revive confidence in government on the part of domestic and foreign investors. For that to happen, the MoF's obsession with imaginary tax losses has to be dropped in favour of more investor-friendly policies that attract inward foreign investment in large amounts. If that happens, it will spur domestic investment concomitantly.

A start can be made by putting the Insurance and Pensions Bills immediately before parliament with GoI doing whatever it must with its allies and opposition parties to get these passed. If the cap on FDI in insurance were lifted from 26% to 49% in the next few months it would result in a significant inflow of FDI. That would spill over through linkages into private corporate capital investment as well as investment in infrastructure. Both are needed urgently to relieve the supply-side bottlenecks that have been built up in the economy over the years and which are now responsible for structural inflation becoming embedded.

Similarly, the counterproductive debates and hold-ups on limiting FDI in retail (single and multi-brand) and on moving more urgently with privatising Air-India need to be ended. No national interest is served by imposing constraints and limits in any of these areas.

As far as Air India is concerned, it is now obvious to every Indian that continued public investment in that hopeless airline is a waste of public money. It benefits no one, least of all the poor, to run a state-owned airline simply for the personal convenience of the political class.

The same could be said for BSNL, MTNL, Coal India and all the SOBs. GoI ought to commit itself to privatising all SOEs by no later than 2025 in a phased manner. State governments need to follow suit rapidly in privatising the plethora of inefficient state-level public enterprises they own as well.

Those steps might indicate to the world that GoI/MoF is serious about undoing the immense damage it has done to India and its image as an investment destination since 2009. Unless that is done, with an ambitious far-reaching reform and privatisation agenda which convinces domestic and global investors that GoI really does mean business, then the Indian economy will continue to languish with prolonged sub-par performance. If that happens fiscal performance will worsen, inflation will remain too high, and growth will remain too low.

A financial crisis will ensue. The INR will continue to decline in value internally through high inflation, and externally against other currencies, putting at risk and perhaps even reversing all the achievements of the 1991 reforms.

It would be a sad legacy for a beleaguered and exhausted PM to leave, with the best of intentions but the worst of performance (and corruption) records, as he exits a stage he has played a lead role on for nearly a decade.