An agenda for difficult times

There are two fronts on which policy-makers in India need to respond immediately. First, lower capital inflows pose a problem at the moment as they would push down the rupee, something India can ill afford when Inflation is high and Oil imports form a huge part of our import bill. A lower rupee will worsen inflation.

But we know that India has a number of restrictions on capital inflows. There are ceilings on foreign borrowing of corporate and Government bonds, external commercial borrowings, and in equity markets through restrictions on instruments like participatory notes. These self-imposed restrictions can be eased so that if foreign capital wants to come into India, the Indian government does not stand in its way. Saumitra Choudhuri, a member of the prime minister’s economic advisory council, remarked recently that we should not persist with flood control measures during a drought. Easing of capital controls will help, even though marginally, to pull in inflows. The impact will admittedly not be large at this time because the main constraint we face is the drying up of liquidity in global financial markets.

The US Treasury and the Fed are today trying to figure out how to reduce the impact of the global crisis on the real economy. Indian policy-makers need to play their own war games and find ways to reduce the impact of the US financial crisis on India. This means easing capital controls against ECBs, PNs, foreign participation in the bond market, and barriers which have been placed to prevent bond market development.

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