Finally, this crisis hit world has decided to use the most potent weapon in its arsenal. Its nothing but quantitative easing. Most of us might not be aware of the reason behind the coining of this fanciful term. Basically, it stands for monetization of debt i.e printing of money by the central bank of a country to finance huge fiscal deficit and to increase liquidity in the market when other instruments of financial policy like monetary policy have been exhausted.
Recently, the US Fed has announced that it would buy the US treasury bonds amounting to close to $1.2trillion which would be financed by printing money. Similar indications have been made by the bank of England. Till now, india has resisted the temptation to use this instrument. But, the finance ministry seems to be mulling this option for a while and our government may go for restarting the printing presses which had been lying idle for quite some time .
Quantitative easing results in the devaluation of a country's currency against a basket of foreign currencies besides resulting in inflation in the long run. It was a normal practice in india prior to 1991. However with the implementation of economic reforms ,some restrictions were placed in 1997. Finally, when the UPA came to power in 2004,it passed the FRBM act by which the government could not directly approach the RBI for funds beyond 1st jan 2006. It was decided that this policy measure would be used only in situations akin to economic emergency.
However, the present situation calls for extraordinary measures to tackle this extraordinary situation and we should not be myopic to restrict ourselves to the textbookish approach in this situation where growth rates have fallen significantly, coupled with huge fiscal deficits and the accompanying spectre of the vicious cycle of deflation. Finally ,we conclude that no policy instument is untouchable and decisions should be made depending on the unbiased analysis of a situation rather than some fixed traditional approach
Friday, March 27, 2009
Saturday, January 31, 2009
a paradigm shift..!
The global meltdown has put an end to growth model based on consumption as in the case of America and one that is entirely driven by exports as in China. The culture of excessive consumption in western contries due to easy availability of credit has resulted in low private savings rate. The problem is not too different at the government level as the US has been running a deficit budget for last few years. This mess in the financial system could have led to another crisis,had it not been for the cheap capital provided by developing countries, manly china in the form of deposits in the US treasury.
Now,this dual core engine of world growth based on consumption and exports has failed miserably. It should be seen as an opportunity to develop an alternate model based on high savings rate and a strong R&D culture resulting in the production of goods with high value addition instead of spending money on unproductive activities.
Moreover,the curbs on the flow of capital should be removed so that capital could finds its way to the country where the returns are maximum ,thus homogenising global growth in a fairly equitable manner.
Now,this dual core engine of world growth based on consumption and exports has failed miserably. It should be seen as an opportunity to develop an alternate model based on high savings rate and a strong R&D culture resulting in the production of goods with high value addition instead of spending money on unproductive activities.
Moreover,the curbs on the flow of capital should be removed so that capital could finds its way to the country where the returns are maximum ,thus homogenising global growth in a fairly equitable manner.
Wednesday, January 14, 2009
keynesian economics.
Thw world economy has tumbled upon yet another recession in less than 6 years. The downslide which started in the US in dec ,07 has spread to several countries of Europe and Japan. The emerging economies of China and India have also been impacted for no fault of theirs. It has resulted in loss of jobs in almost all industry verticals due to weakening of aggregate demand. It is expected that situations will improve by the end of this year with the return of normalcy in the growth rates.
Pessimists have compared it with spectre of early thirties,predicting a decade of stagnant growth. However, such a scenario is highly improbable given the magnitude of efforts by the central banks all over the world to contain the fallout of this recession. We may see huge increase in public spending in an attempt by world governments to provide counter cyclical measures as prescribed by Keynes. However,such efforts need to be coordinated across the globe to create huge multiplier effects to enable the world economy to get out of this recession.
This crisis has led to scathing attack on the ideals of capitalism ,raising of question regarding the ability of the system to ensure holistic development of our economy. However,in the absence of any viable alternative,we may continue to follow the capitalistic model of development which has resulted in rapid economic development of western world inspite of its shortcomings. However, recessions have got some clensing effects as they help us to get rid of our past excesses reminding us that life is not full of rosses.
Pessimists have compared it with spectre of early thirties,predicting a decade of stagnant growth. However, such a scenario is highly improbable given the magnitude of efforts by the central banks all over the world to contain the fallout of this recession. We may see huge increase in public spending in an attempt by world governments to provide counter cyclical measures as prescribed by Keynes. However,such efforts need to be coordinated across the globe to create huge multiplier effects to enable the world economy to get out of this recession.
This crisis has led to scathing attack on the ideals of capitalism ,raising of question regarding the ability of the system to ensure holistic development of our economy. However,in the absence of any viable alternative,we may continue to follow the capitalistic model of development which has resulted in rapid economic development of western world inspite of its shortcomings. However, recessions have got some clensing effects as they help us to get rid of our past excesses reminding us that life is not full of rosses.
Thursday, January 8, 2009
satyam saga
The stunning revelation by satyam about incidence of cooked up data in its balance sheets has taken each proud indian by surprise.This has reignited the importance of ethics in corporate governance. Moreover,This fiasco has brought shame to IT industry of india and may adversely impact the credibility of statements regarding the performance of indian companies. Foreign instutional investors may get discouraged from investing in india at least in short term. This story has compounded the misery of the indians having already suffered from the recent global meltdown.
Any listed company is supposed to follow corporate governance of highest standards as most of the capital comes from general shareholders other than promoters. Its the faith of the people in corporate governance that makes the system of equity finance possible. This episode may drive common men to stay away from capital markets. However, all is not lost. This problem may be seen as an oppertunity to make the provisions of corporate governance with no loopholes. We can only hope that such incidents dont get repeated in the future.
Any listed company is supposed to follow corporate governance of highest standards as most of the capital comes from general shareholders other than promoters. Its the faith of the people in corporate governance that makes the system of equity finance possible. This episode may drive common men to stay away from capital markets. However, all is not lost. This problem may be seen as an oppertunity to make the provisions of corporate governance with no loopholes. We can only hope that such incidents dont get repeated in the future.
Thursday, December 4, 2008
financial weapons of mass destruction.
The present global meltdown can be termed as a consequence of the explosion of" financial bomb" that had been building on for some years in the US. After the dotcom bubble ,the US had pursued a regime of low interest rate to spur economic activity after the bursting of the tech bubble in 2001. However,this policy led to a frenzy of activity in America's real estate sector leading to rising house prices as a result of rise in demand due to easy avaibility of loans at low rates even to sub-prime borrowers. The banks were under the belief that prices of houses never fall and such houses can always act as collateral in the case of defaults. Now comes our real villain "mortgage backed securities". These loans were sliced and packaged with other financial instruments and sold to investors mainly "investment bank" as 'A or AA ' rated securities.
From 2005 -2007 onwards, FED increased the interest rates more than 12 times to contain the inflationary expectations that had been building in the economy. Since,those loans were disbursed at floating rates, tied to the benchmark interest rate,the interest burden on the consumers began to rise and by then demand for houses had subsided. Initially,there were only few cases of defaults,thereby banks took possession of those houses. But,it resulted in a scenarion of high suppy of houses against a stagnant demand,there by causing a fall in price level in the housing sector.
These falling prices eroded the asset value of many households and in many cases the prices had fallen way below the amount owed by the customers to the banks. This instigated many people to default which inturn increased the supply of houses in the market,causing a further fall in their prices. In other words, there was a race to liquidate the value of the houses,leading to about 20% fall in their prices. Now,the investment banks,like lehmann brothers and merril lynch who had bought the securities backed by these "mortgages" suffered a substantial erosion of their balance sheet .The cash availability had fallen below their working capital requirements by the middle of 2008.These banks tried their level best to get some low cost capital from FED,US central bank, and central banks of some other countries to remain solvent. But that is another story. Finally,in september 2008,lehmann brothers was forced to declare bankruptcy and merril lynch was sold to Bank of America .
Then followed the wave of deleveraging,i.e reducing the debt exposure , that has engulfed the world since september. Banks have become reluctant to lend to businesses and even among themselves thus clogging the credit fow to vital sectors of economy. This is what has been described as liquidity crunch and attempts by central banks of the world to reduce this crunch by reducing interest rates.
ur comments are welcome..!
From 2005 -2007 onwards, FED increased the interest rates more than 12 times to contain the inflationary expectations that had been building in the economy. Since,those loans were disbursed at floating rates, tied to the benchmark interest rate,the interest burden on the consumers began to rise and by then demand for houses had subsided. Initially,there were only few cases of defaults,thereby banks took possession of those houses. But,it resulted in a scenarion of high suppy of houses against a stagnant demand,there by causing a fall in price level in the housing sector.
These falling prices eroded the asset value of many households and in many cases the prices had fallen way below the amount owed by the customers to the banks. This instigated many people to default which inturn increased the supply of houses in the market,causing a further fall in their prices. In other words, there was a race to liquidate the value of the houses,leading to about 20% fall in their prices. Now,the investment banks,like lehmann brothers and merril lynch who had bought the securities backed by these "mortgages" suffered a substantial erosion of their balance sheet .The cash availability had fallen below their working capital requirements by the middle of 2008.These banks tried their level best to get some low cost capital from FED,US central bank, and central banks of some other countries to remain solvent. But that is another story. Finally,in september 2008,lehmann brothers was forced to declare bankruptcy and merril lynch was sold to Bank of America .
Then followed the wave of deleveraging,i.e reducing the debt exposure , that has engulfed the world since september. Banks have become reluctant to lend to businesses and even among themselves thus clogging the credit fow to vital sectors of economy. This is what has been described as liquidity crunch and attempts by central banks of the world to reduce this crunch by reducing interest rates.
ur comments are welcome..!
Sunday, November 30, 2008
terrorist strikes.
The terrorist strikes in mumbai have shook the entire nation.They have exposed the myth surrounding the military power of India and once again reminded us about vulnerability of our law and order establishment. But ,we did not reach this situation overnight. A system of governance where policy matters are decided on vote bank politics rather than prudence and where loyalty to a family is requisite for a post rather than competence could have led us nowhere. India has suffered this disease of terrorism more than any other country on this earth. Thousands of people have died in terrorist attacks in a decade or so and yet we lack a clear consistent approach against this menace. As far as India is concerned,we have been in state of proxy war with pakistan which has been trying to destabilise the cultural and economic fabric of our country through their home trained fanatics. But,there is a limit to everything and we should be prepared to give a fitting reply to our western neighbour. Internally,we should not try to unnecessarily politicise the issue to score political points as it is not the time to point fingers but stand united against this malaise.
Anyway,its better late than never. This event may turn out to be our 9/11 in the fight against terror and lets hope that our political leadership wakes up to understand the gravity of the situation and make "terrorism' a thing of the past.
Anyway,its better late than never. This event may turn out to be our 9/11 in the fight against terror and lets hope that our political leadership wakes up to understand the gravity of the situation and make "terrorism' a thing of the past.
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