Raghuram Rajan (University of Chicago Professor) – Davos (Jan 2016)

Chapters

Abstract

Raghuram Rajan’s Insightful Analysis of India’s Economy Amidst Global Challenges

In a detailed and insightful analysis, Raghuram Rajan, the Governor of the Reserve Bank of India (RBI), presents a comprehensive overview of the Indian economy and its interactions with global economic trends. Key points include India’s steady economic recovery, the implications of the global commodity crash, China’s economic impact, the rupee’s depreciation, and the balance between fiscal consolidation and growth. Rajan’s perspective, emphasizing stability and long-term fundamentals, addresses critical issues like market volatility, fiscal expansion debates, India’s growth prospects, and the challenges in monetary policy decisions. His analysis also delves into the global influence of the US Federal Reserve’s policies, China’s economic transition, and internal challenges such as leveraged businesses and bad loans in the banking sector.

The world economy is in a slow recovery phase, and India is experiencing steady growth. The Indian economy shows positive developments, including a declining inflation rate, a stable current account deficit, and initiatives promoting entrepreneurship and financial inclusion.

Economic Recovery and Stability:

Rajan’s confidence in India’s gradual economic recovery is evident in his remarks on GDP strength and financial reforms, including the introduction of new banks and technological advancements. He highlights the decreasing inflation and manageable current account deficit, painting a positive picture of the economy’s future.

Commodity Crash and Its Implications:

The commodity crash, particularly in oil prices, is seen as a positive development by Rajan, indicating an abundant supply and lower costs. While acknowledging potential challenges for oil-exporting countries, Rajan views this as beneficial for commodity-dependent economies. Despite concerns about sovereign wealth funds, ample cash is available for investment, suggesting a potential market recovery.

China’s Role and Market Jitters:

Contrary to popular opinion, Rajan downplays China’s sole responsibility for global market volatility. He points to the influence of easy monetary policies inflating asset prices, leading to market uncertainties. He emphasizes the temporary nature of market disruptions caused by news and liquidity withdrawals. China’s strong growth over the past 30 years should not be discounted despite current challenges and government interventions. India should focus on its own fundamentals, framework, and macro stability. Impatience for growth at the expense of macro stability should be avoided. India should maintain its reputation as an oasis of stability and avoid losing its strengths.

Rupee’s Recent Depreciation:

Acknowledging the rupee’s depreciation against the dollar, Rajan stresses the stability of its real effective exchange rate against other currencies. He expresses confidence in India’s policies and reserves to manage volatility, clarifying that RBI’s intervention aims to reduce, not prevent, depreciation. The Indian Rupee is one of the most stable emerging market currencies, demonstrating resilience.

Carry Trade and Rupee’s Fluctuations:

Rajan notes the impact of the unwinding of carry trade investments on the rupee’s value. He advocates for a balanced approach that considers technical factors alongside fundamental economic indicators.

Raghuram Rajan’s Insights on India’s Economic Situation:

Rajan believes that recent market outflows reflect more on market issues than India’s economic fundamentals. He asserts the improvement in macroeconomic factors such as lower inflation and reduced fiscal and current account deficits. He also discusses the debate around fiscal expansion in light of the oil price crash and the government’s focus on macro stability. India’s macroeconomic situation has improved, aided by lower commodity prices and effective policies. Inflation, fiscal deficit, and current account deficit have all been reduced, indicating stability. The government is aware of the need for macro stability, which includes both fiscal consolidation and growth. Debate exists about whether to expand fiscal policy given the windfall from lower oil prices. The government faces difficult decisions in maintaining its fiscal path while balancing growth objectives.

India’s Fiscal Consolidation and Growth Challenges:

India’s balancing act between fiscal consolidation and economic growth is a key challenge. Rajan acknowledges this trade-off, highlighting the government’s commitment to fiscal consolidation while addressing growth needs. Rajan expresses confidence in India’s overall economic situation, considering fiscal, monetary, and other factors. While acknowledging the importance of meeting fiscal deficit targets, Rajan emphasizes the complexities involved in decision-making. The government’s statements indicate a cautious approach to fiscal expansion, prioritizing macro stability.

Urgency to Address Bad Loans:

Raghuram Rajan explains the urgency to address the bad loans problem, especially in the steel industry, before it exacerbates. He believes it’s crucial to act while the government is fully committed and has the resources to provide support.

Fixing the Bad Loans Problem:

Rajan asserts that banks must use available tools to resolve bad loans, which will allow them to fund new growth, capture profitable opportunities, and ultimately benefit from it.

Relationship with North Block and Mint Street:

Rajan clarifies that his relationship with Finance Minister Mr. Jaitley and the Prime Minister has always been good, despite media speculations. He emphasizes open communication and mutual respect between North Block and the Reserve Bank of India (RBI).

Respect for Decision-Making Realms:

Rajan affirms that the government respects the RBI’s authority in making monetary policy decisions, while the government has the responsibility to decide on bank recapitalization and governance.

Potential Extension as Governor:

Rajan declines to comment on the hypothetical question about his willingness to extend his tenure as Governor, stating that he has consistently avoided addressing this topic.

India’s Growth Prospects:

Despite the slowdown, Rajan remains optimistic about India’s growth, drawing parallels to the situation in 2001-2002. He points to the achievement of maintaining 7% growth amid global challenges and emphasizes the importance of reforms and efficiency in corporations. Growth may be higher than perceived, leading to a more optimistic view despite gloomy sentiments.

Factors Influencing Monetary Policy Decisions:

Rajan emphasizes the complexity of monetary policy decisions, considering various external and internal factors without giving specific guidance. Monetary policy decisions are based on various internal and external factors, not limited to a single variable. External and internal factors, including market sentiments, are considered in monetary policy decisions. Boosting the market as a matter of principle solely based on its fall is not the right approach. Central banks should not be guided solely by market sentiments and should focus on their objectives.

US Federal Reserve’s Rate Hike Trajectory:

Rajan refrains from commenting on the US Federal Reserve’s future rate plans. He cautions against market-driven decision-making and raises concerns about the measurement of economic activity and productivity. There are concerns about the lack of productivity growth despite technological advancements. Mismeasurement of true productivity due to unmonetized activities and improper quality assessment may be a factor.

China’s Economic Transition and Its Impact on India:

Rajan acknowledges China’s growth achievements and advises India to focus on its fundamentals, business environment, and macroeconomic stability. He warns against compromising macro stability for short-term gains.

Concerns about Promoter-Led, Leveraged Businesses in India:

The impact of leveraged businesses on bank balance sheets is a concern for Rajan, but he remains confident in the banks’ ability to manage these issues, emphasizing the need for innovative asset restructuring approaches. Promoter-led, leveraged businesses in India have raised concerns due to rising debt and NPAs on bank balance sheets. The Reserve Bank of India (RBI) is working with banks to rectify the situation. The problem is manageable, and the resources and capabilities exist within the system to deal with it. Innovative methods for restructuring bad assets may be necessary.

Raghuram Rajan’s Perspective on the Indian Economy:

Rajan stresses the urgency of addressing bad loans, particularly in the steel sector. He expects banks to use available tools effectively to manage these loans and highlights his positive working relationship with the government, respecting the RBI’s autonomy in monetary policy.



Raghuram Rajan’s comprehensive analysis underlines the significance of stability, prudent policies, and long-term fundamentals in navigating the complexities of the Indian and global economies. His insights offer a clear understanding of India’s economic challenges and prospects within a global context, emphasizing the importance of maintaining a balanced approach to economic policy and growth.

Notes by: TransistorZero