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Global financial crisis
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Global Financial Crisis: Causes, Consequences and
India’s Prospects
Scheme of Presentation
Global Financial CrisisImpact on IndiaDifference between US/Europe and
IndiaRBI’s Policy Response and ImpactLessons from the CrisisMedium-term Issues and Challenges
Scheme of Presentation
Global Financial Crisis
Impact on IndiaDifference between US/Europe and
IndiaRBI’s Policy Response and ImpactLessons from the CrisisMedium-term Issues and Challenges
Global Financial Crisis (1)
Proximate causes Sub-prime lending Originate and distribute model Financial engineering, derivatives Credit rating agencies Lax regulation Large global imbalances
Fundamental cause Excessively accommodative monetary policy in the US
and other advanced economies (2002-04)
Global Financial Crisis (2)Current Account Balance (per cent to GDP)
Country 1990-94 1995-99 2000-04 2005 2006 2007 2008China 1.4 1.9 2.4 7.2 9.5 11.0 10.0India -1.3 -1.3 0.5 -1.3 -1.1 -1.0 -2.8Russia 0.9 3.5 11.2 11.0 9.5 5.9 6.1Saudi Arabia -11.7 -2.4 10.6 28.7 27.9 25.1 28.9United Arab Emirates 8.3 4.6 9.9 18.0 22.6 16.1 15.8United States -1.0 -2.1 -4.5 -5.9 -6.0 -5.3 -4.7Memo:Euro area n.a. 0.9 0.4 0.4 0.3 0.2 -0.7Middle East -5.1 1.0 8.4 19.7 21.0 18.2 18.8Source: World Economic Outlook Database, April 2009, International Monetary Fund.
Note: (-) indicates deficit.
Global Financial Crisis (4)US Monetary Policy (1)
•Volatility in monetary policy in advanced economies
•Large volatility in capital flows to EMEs
•Again very loose MP in US – likely surge in capital flows to EMEs?
Global Financial Crisis (5)US Monetary Policy (2)
•US Monetary policy too loose during 2002-04; aggregate demand exceeded output; large current a/c deficit; mirrored in large surpluses in China and elsewhere.
Global Financial Crisis (6)US Monetary Policy (3)
Large Fed cuts in 2007: strong boost to oil, other commodity and asset prices
Global Financial Crisis (3)Capital Flows to Emerging Market Economies
•Very large capital flows to EMEs –– now outflows in 2009 - large volatility - implications for monetary management and financial stability
Global Financial Crisis (7) Worsening Global Economic Outlook
Growth Forecast of IMF (per cent)
Region April 2008 July 2008 October 2008 April 2009
2008 2009 2008 2009 2008 2009 2008 2009
Advanced countries 1.3 1.3 1.7 1.4 1.5 0.5 0.9 (-)3.8
EMEs 6.7 6.6 6.9 6.7 6.9 6.1 6.1 1.6
World 3.7 3.8 4.1 3.9 3.9 3.0 3.2 (-)1.3
Global Trade Volume (Goods and Services)
World 3.7 3.8 4.1 3.9 3.9 3.0 3.3 -11.0
Scheme of Presentation
Global Financial Crisis
Impact on IndiaDifference between US/Europe and
IndiaRBI’s Policy Response and ImpactLessons from the CrisisMedium-term Issues and Challenges
Impact on India (1)Trends in Capital Flows
Component Period 2007-08 2008-09
Foreign Direct Investment to India April-February 27.6 31.7
FIIs (net) April-March 20.3 -15.0
External Commercial Borrowings (net) April- December 17.5 6.0
Short-term Trade Credits (net) April- December 10.7 0.5
Total capital flows (net) April- December 82.0 15.3
Memo:
Current Account Balance April- December -15.5 -36.5
Valuation Gains (+)/Losses (-) on Foreign Exchange Reserves April- December 9.0 -33.4
Foreign Exchange Reserves (variation)
April-December 76.1 -53.8
April-March 110.5 -57.7
Impact on India (2)Key Macro Indicators
Indicator Period 2007-08 2008-09
Growth, per cent
Real GDP Growth April-December 9.0 6.9
Industrial production April-February 8.8 2.8
Services April-December 10.5 9.7
Exports April-March 28.4 6.4
Imports April-March 40.2 17.9
GFD/GDP April-March 2.7 6.0
Stock Market (BSE Sensex)
April-March 16,569 12,366
Rs.per US$ April-March 40.24 45.92
Scheme of Presentation
Global Financial CrisisImpact on India
Difference between US/Europe
and IndiaRBI’s Policy Response and ImpactLessons from the CrisisMedium-term Issues and Challenges
Differences Between Financial Crisis in US/Europe and India (1)
What has not happened here No subprime No toxic derivatives No bank losses threatening capital No bank credit crunch No mistrust between banks
Differences Between Financial Crisis in US/Europe and India (2)
Our Problems Reduction in capital flows
Pressure on BoPStock marketsMonetary and liquidity impact
Temporary impact on MFs/NBFCs (Sept-Oct)
Reduction in flow from non-banks
Perceptions of credit crunch
Differences Between Financial Crisis in US/Europe and India (3)
Our Problems Fiscal stress
Oil, Fertiliser, Food subsidiesPay Commission, Debt waiver, NREStimulus packagesGFD/GDP ratio: 5.5-6.0%
Large increase in market borrowings
Rs. crore
2008-09 BE 2008-09 RE 2009-10 BE
Gross 1,76,453 3,42,769 3,98,552
Net 1,13,000 3,29,649 3,08,647
Differences Between Financial Crisis in US/Europe and India (4)
India’s Approach to Managing Financial Stability (1) Current account: Full, but gradual opening up Capital account and financial sector: More
calibrated approach towards opening up. Equity flows encouraged; debt flows subject to ceilings and some end-use
restrictions. Capital outflows: progressively liberalized.
Differences Between Financial Crisis in US/Europe and India (5)
India’s Approach to Managing Financial Stability (2) Financial sector, especially banks, subject to
prudential regulationboth liquidity and capital. prudential limits on banks’ inter-bank liabilities in
relation to their net worth; asset-liability management guidelines take
cognizance of both on and off balance sheet itemsBasel II framework: guidelines issued. Dynamic provisioningNBFCs: regulation and supervision tightened - to
reduce regulatory arbitrage.
Scheme of Presentation
Global Financial CrisisImpact on IndiaDifference between US/Europe and
IndiaRBI’s Policy Response and Impact
Lessons from the CrisisMedium-term Issues and Challenges
Measures since Mid-September, 2008 (1) Expanding rupee liquidity
Reduction in CRR (400 bps) & SLR (100 bps) Special Repo window under LAF for banks on-lending
to NBFCs, HFCs & MFS Special Refinance to banks without collateral Unwinding of MSS – buyback/desequestering OMOs – pre-announced calendar
Cut in repo (425 bps) and reverse repo (275 bps) rates.
Existing instruments – enough flexibility MSS and CRR – good, effective buffers of
liquidity – both absorption and injection
Measures since Mid-September, 2008 (2)
Managing Forex liquidity NRE and FCNR(B) deposits: interest rate
ceilings raised ECB norms relaxed Allowing corporates to buy back FCCBs Rupee-dollar swap facility for banks with
overseas branches
Measures since Mid-September, 2008 (3)
Encouraging Flow of credit Exporters:
extension of period for export credit.Expansion in refinance
Dynamic provisioning Contracyclical adjustment of prudential norms
SIDBI and NHB: lendable resources expanded
Loan restructuring
Measures since Mid-September, 2008 (4)Impact of Measures (1)
Measures ensuring orderly functioning of Indian financial markets Cumulative potential primary liquidity impact – over Rs. 4,90,000
crore (9 % of GDP) Comfortable liquidity position since mid-November, 2008
LAF window in absorption mode. Call rate within LAF corridor since November 3, 2008 – bottom
of the corridor. Gradual reduction in deposit and lending rates of banks .
Government yields: upward pressure from large market borrowing programme Proactive management by RBI
MSS unwinding Enhanced and pre-announced calendar for OMOs
Measures since Mid-September, 2008 (5)Impact of Measures (2)
Item March 2008
September 2008
October 2008
March 2009
Turnover (Rupees crore, average daily)
1 Call market 11,182 11,690 14,497 11,909
2 All money markets @ 63,395 42,891 40,906 81,821
Key Interest Rates (per cent)
3 Call market 7.37 10.52 9.90 4.17
4 All money markets @ 6.55 9.26 8.66 3.76
5 BSE Sensex 15946 13943 10550 8995
6 Rs. Per US $ 40.36 45.56 48.64 51.23
7 10-year G-sec yield 7.69 8.45 7.85 6.56
8 Certificate of Deposits 10.0 11.6 10.0 7.0
9 Commercial Paper 10.4 12.3 14.7 8.9
10 Deposit rate (1-3 yrs)# 8.25-9.25 8.75-10.25 8.75-10.25 8.00-9.25
11 BPLR# 12.25-13.50 13.75-14.75 13.75-14.75 11.50-14.00
@: Call money, CBLO and market repo; #: Data pertain to PSBs.
Measures since Mid-September, 2008 (6)Total Resource Flow from Banks and Non-banks
Rupees crore
Item 2007-08 2008-091 Non-food Bank
credit4,44,807 4,14,902
2 Non-banks 3,35,698 2,64,1383 Total flow of
resources (1+2)7,80,505 6,79,040
Measures since Mid-September, 2008 (7)Inflation in India
(per cent)Item March
2008June 2008 September
2008 December 2008
March 2009
Wholesale price inflationAll commodities 7.8 12.0 12.1 5.9 0.3Of which:Primary articles 9.7 11.0 12.0 11.6 3.5Fuel 6.8 16.3 16.5 -0.7 -6.1Manufactured products
7.3 10.9 10.5 6.2 1.4
Consumer price inflationAgricultural labourers
7.9 8.8 11.0 11.4 10.8 (Feb)
Rural labourers 7.6 8.7 11.0 11.4 10.8 (Feb)Urban non-manual employees
6.0 7.3 9.5 9.8 9.9 (Feb)
Industrial workers 7.9 7.7 9.8 9.7 9.6 (Feb)
Scheme of Presentation
Global Financial CrisisImpact on IndiaDifference between US/Europe and
IndiaRBI’s Policy Response and Impact
Lessons from the Crisis
Medium-term Issues and Challenges
Lessons from the Crisis
Avoid high volatility in monetary policy Appropriate response of monetary policy to
asset prices Manage capital flow volatility Look for signs of over leveraging Active dynamic financial regulation
Capital buffers, dynamic provisioning Look for regulatory arbitrage incentives/
possibilities
Scheme of Presentation
Global Financial CrisisImpact on IndiaDifference between US/Europe and
IndiaRBI’s Policy Response and ImpactLessons from the Crisis
Medium-term Issues and Challenges
Medium-term Issues and Challenges (1)Macroeconomic Indicators at a Glance
(Per cent)
1950-51 to
1964-651965-66 to
1980-81 1980s 1990-91
1991/92 to
1996-97
1997/98 to
2002/03
2003/04To
2007/08
1 2 3 4 5 6 7 8
1. Real GDP Growth 4.1 3.2 5.6 5.3 5.7 5.2 8.7
Agriculture 2.9 2.1 4.4 4.0 3.7 0.9 4.4
Industry 6.7 4.2 6.4 5.7 7.0 4.1 8.4
Manufacturing 6.6 3.9 5.8 4.8 7.5 3.9 9.1
Services 4.9 4.2 6.3 5.9 6.4 7.8 10.3
2. Real GDCF/GDP 13.5 19.2 20.2 24.4 22.5 24.1 31.4
3. ICOR 3.3 6.0 3.6 4.6 4.0 4.6 3.6
4. Nominal GDCF/GDP 11.8 16.7 20.8 26.0 23.9 24.5 33.0
5. GDS/GDP 10.3 15.9 19.0 22.8 22.7 24.1 32.7
6. Saving-Investment Gap -1.5 -0.7 -1.8 -3.2 -1.2 -0.4 -0.3 Continuing increase in real GDP growth - Interregnum during the 1970s Secular uptrend in domestic saving and investment -investment largely financed
by domestic savings Continuation of growth in domestic savings necessary; fiscal prudence
Medium-term Issues and Challenges (2)Fiscal Policy (1)
Combined fiscal deficit in India Even before the recent setback: very high by
international standards contribute to the persistence of an interest
rate differential with the rest of the world, constrains progress towards full capital
account convertibility. self imposed rule based fiscal correction
needs to be consolidated and carried forward.
Medium-term Issues and Challenges (3)Fiscal Policy (2)
Sustained interest rate differential also connected with the existence of a persistent inflation differential with the rest of the world. A key challenge is to further reduce
inflation expectations toward international levels.
Medium-term Issues and Challenges (4)Monetary Policy (1)
A continuous need to adapt monetary management to the emerging needs of a fast growing and increasingly open economy.
Financial deepening and increasing monetisation. expansion of monetary aggregates departs from
their traditional relationship with real GDP growth.
task of monetary management: manage such growth without endangering price or financial stability.
Medium-term Issues and Challenges (5)Monetary Policy (2)
Further development of financial markets Large capital inflows in recent years
Reserve Bank’s ability to manage the impossible trinity
Issues for monetary policy current account balance as a good guide to
evaluation of the appropriate level of an exchange rate?
to what extent should the capital account influence the exchange rate?
implications of large current account deficits for the real economy?
Medium-term Issues and Challenges (6)External Sector (1)
Optimal response to the large and volatile capital flows is a combination of (CGFS, 2009) sound macroeconomic policies prudent debt management exchange rate flexibility effective management of the capital account accumulation of appropriate levels of reserves as self-
insurance and development of resilient domestic financial markets combination is country-specific; no “one size fits all”.
Medium-term Issues and Challenges (7)External Sector (2)
Indian policy approach to CAL Distinction between debt and equity
flows Higher inflation and interest rates in
India vis-a-vis advanced economies Liberalisation of debt flows can lead to
arbitrage flows Ceilings on debt flows appropriate
Medium-term Issues and Challenges (8)Financial Sector
Without Stress
Scenario - increase in NPA by:
100 per cent 150 per cent
CRAR (%) CRAR (%) CRAR (%)
Mar-08 13.0 11.6 11.0
Sept–08 12.5 11.1 10.6
•Note: CRAR = credit to risk-weighted assets ratio
Commercial banks robustCommittee on Financial Sector Assessment
(CFSA)
• Stability Assessment and Stress Testing
• Concerns about credit risk remain muted at present
Medium-term Issues and Challenges (9)Conclusion
India’s fundamentals remain strong Financial sector robust Monetary policy – sufficient instruments, flexible Corporate sector not too leveraged – second round of
restructuring going on – productivity gains Foreign direct investment buoyant Agriculture improving Growth domestically financed
Indian economy should be able to recover fast and return to 9%+ growth path
Thank You