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Tuesday, July 17, 2018

Games RBI can play

How the new governor could help save the economy from the economists.

Written by Bhaskar Chakravorti | Published: September 19, 2013 12:23:18 am

How the new governor could help save the economy from the economists.

We’re just past the summer of the squabbling septuagenarians. Amartya Sen and Jagdish Bhagwati auditioned brilliantly for roles in the movie version of Professor Sen’s earlier book,The Argumentative Indian. While the battle of the super-economists played out in the headlines,we almost missed the side story of India’s economy heading for far-from-super status. Today,with the venerable professors back at their perches abroad,the world awakes to India’s tryst with a new super-economist. Despite his relative youth,for now,there are few who would dare to argue against Raghuram Rajan,the new RBI governor. An entire nation waits with bated breath and asks,will Raghunomics save India?

The governor’s table has been laid. The current account deficit is at $90 billion and foreign exchange reserves are at $275 billion. Add to this the $170 billion in short-term debt,which will have to be repaid if it cannot be rolled over. With a devaluing rupee,this is a recipe for an unappetising dish. In his homage to Will Durant’s The Case for India last week,Rajan made a case for modest reforms and the mundane tasks that can get at the necessary — in his words — low-hanging fruit. He is too smart a man to not know that he will rather quickly have to reach higher,dig deeper and pivot faster. For this,he must draw from other reserves.

Most people know the governor as a bright economist; few know that he is also a mean squash player. Having lost to him several times on the MIT squash courts,I know that he appreciates an essential principle of the game: always get to the “T”. The “T” is the point on the court that puts you in the best position to get to the ball,no matter where it might unexpectedly appear next,especially if one doesn’t quite know the nature of the opponent or what kind of game might ensue. Indeed,who is the real opponent here,and what sort of game has the new governor signed up for? There are at least five scenarios.

Game 1: The opponent is the emerging markets’ favourite bogeyman,Rajan’s counterpart at the US Federal Reserve,Ben Bernanke. Clearly,the Indian economy is not nose-diving alone. The trials and tribulations of the rupee parallel those of the Brazilian real,the Turkish lira,the South African rand and the Indonesian rupiah. The simple theory connecting all falling currencies points the finger at the (at the time of writing) anticipated “tapering” of the $85 billion-a-month asset purchases signalled by the Fed. This will mean that international investors hungry for returns take their hot money and exit emerging markets and seek sanctuary back in the US. The 1997-98 Asian financial crisis still casts a rather long shadow: then,as now,money fled from Thailand,Indonesia and South Korea with the prospect of the US raising interest rates. To prop up its currency,India may have to consider joining the others in raising interest rates,which could choke off chances for growth,presenting the RBI with a real dilemma.

Game 2: The opponent is the US’s favourite bogeyman,China. As China “re-balances”,that is,moves away from an investment-led economy to one that is more consumption-oriented,an immediate effect is that global demand for commodities decreases. The resulting drop in commodity prices could provide a potential boost to importers such as India,offering some relief from inflationary pressures and giving policymakers some additional wiggle room. Second,with China letting up on investment in its manufacturing sector and wages rising,India may have an opening to finally do something about its giant deficit in manufacturing. This may be an opportunity that India cannot afford to miss. Third is the wildcard: the unpredictable economic and political consequences of a sustained slowdown in China and its effects on international markets could cause ripples worth preparing for.

Game 3: The opponent is the man on the Arab street. Of course,at the moment,all eyes are on the man ensconced in a fortified mansion in Damascus,Bashar al-Assad,but most significantly,the deeper source of uncertainty in the Middle East is in the common man’s frustrations and what happens next in the post-Arab Spring phase. The resulting dynamics could draw the US,Russia,Iran,Saudi Arabia and Israel,among others,into a wider crisis. This may hold deeper implications for India than just the price of oil. Geopolitical uncertainty in the Middle East has a way of spinning out of control,with an impact on the wider global economy.

Game 4: The real opponent is right here at home. India’s political class can make for an unpredictable game: a coalition government at the centre with many stakeholders to appease and high variability in political will across the states. Added to this is endemic corruption,the reforms agenda following a random walk and the eternal bureaucratic red-tape. In addition,civil,legal and social actors are equally formidable opponents. There are movements for creating new states,festering insurgencies and pervasive criminality in the twin obsessions of cricket and Bollywood. There is an urgent need to “de-risk” India. Even if the levers are not really in Rajan’s hands,he may be the man that investors turn to for that magic word: confidence.

Game 5: The real scourge — the opponent to watch for — is the common man. A casualty of high GDP growth rates and the accompanying euphoria is that an essential truth gets forgotten: the inclusionary institutions can barely keep pace,leading to a severe imbalance. McKinsey computed that the middle classes in the emerging markets are a $30 trillion opportunity by 2025. But in recent months,the middle class took to the streets across Brazil,Turkey,South Africa,India and elsewhere. And they haven’t exactly been celebrating. In fact,when Brazilians hit the streets to protest against their “beautiful game” of football and demand a return of priorities like lower bus fares,it is a sign that something may be amiss. Seventy per cent of India’s population still lives on less than $2 a day,without access to the basic minimum of resources,such as clean water,financial access,housing,education or health. In the absence of a better balance between GDP growth and inclusive growth,the economy simply cannot get too far out on its own. Perhaps shifting into lower gear and maintaining a slower growing economy is the right trajectory. It gives a chance to focus policy towards helping inclusionary institutions play catch-up.

The real game may be a mix of these. As we witnessed through the Sen-Bhagwati squabble,economists have a habit of staying rooted to their spot. The new governor would be better served pulling out his squash gear. This will prepare him to go after the ball no matter who he is up against and remain on his toes so as to reposition quickly. I am inspired by Rajan’s book,Saving Capitalism from the Capitalists,enough to mangle the title and suggest that the sequel be called “saving the economy from the economists”. Let’s turn the economy over to someone who thinks well when he is truly boxed-in. Rajan was always good at getting to the “T”.

The writer,senior associate dean of international business and finance at The Fletcher School at Tufts University and founding executive director of the Institute for Business in the Global Context,is the author of ‘The Slow Pace of Fast Change’

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