Of Vedanta & de-risking global finance

There are many books on the global financial crisis triggered by the collapse of US investment bank Lehman Brothers and the lessons learnt from it. But this book, written by someone who has been a central banker for more than a decade, is different from the pack. 

Rabi Mishra, currently an executive director of the Reserve Bank of India (RBI), had headed its financial stability unit (set up in the aftermath of the crisis) and was a principal chief general manager of the risk monitoring department. These assignments have a bearing on his narrative: He has dealt with a very complex subject with relative ease. 

Macroprudential regulations are a work in progress but Mr Mishra has raised relevant questions and tried to answer them. The book traces the origin of the crisis, its impact on the global financial system and the long-term consequences. The academic world will definitely find this a useful reference book. The book has four parts: Regulatory reforms after the crisis; how macroprudential policies are being used to manage the systemic risks; the framework of crisis management; and the emerging new world of coordinated international policy-making. An epilogue deals with central banks’ potential concerns a decade after the Lehman collapse.

India, which has a predominantly bank-led financial system, has always focused on the resilience of the system — important in the current context of the unholy nexus among some banks, shadow banks and bankrupt real estate firms that could threaten financial stability. The book describes in detail RBI’s early experiments with (a) the investment fluctuation reserve (when banks were making too much money on their bond portfolio with the fall in interest rates early this century, they were asked to create this buffer against rising rates); (b) assignment of risk weights depending on the sensitivity of the sector (jacking up the cost of capital for banks as a disincentive to lend to such sectors); and (c) capping exposure limits to certain sectors. 

In 2004, the RBI also started keeping tabs on the interconnectedness of different entities within the financial system. It’s another matter that not every entity is respecting this, creating all sorts of problems — the latest crises in cooperative banks and shadow banking being cases in point.

While regional integration is a systemic process of economic, political and legal synergy and it takes a long time to achieve, Mr Mishra recommends that the lessons learnt from the Eurozone integration can be replicated in other parts of the world to avoid a crisis in future.

Citing the Sanskrit phrase Vasudhaiva Kutumbakam (the world is one family) Mr Mishra says Vedanta philosophy should be applicable to financial innovations. How? Human beings are the driving force behind the “family” mentioned in the phrase and they are made of mind, intellect and spirit. The synergy of the three creates energy, which empowers human beings to innovate.  As enshrined in Vedantic philosophy, this synergy has to move from micro to macro. Mr Mishra says all nations must explore this synergy and reap the benefits of financial innovations. Globalisation is nothing but an expression of this synergy.

There are many roadblocks to global financial and economic integration. The recent tariff wars between the US and China is one of them. His theory is: All nations must look for the so-called Pareto-optimal economic integration —that is making some countries better off without hurting others. The need of the hour, according him, is creating a system to ensure global monetary and financial stability.

He extends this to linking payments systems of different nations, because interoperability will ensure cross-border access to international markets and bring down transaction costs.  An international financial infrastructure should be set up for sharing technology platforms and data networks to facilitate payments and settlement of funds. He also supports the need for a global repository of regional statistics. This is easier said than done since the RBI itself believes in data localisation.

Finally, Mr Mishra has also dealt with concept of an international monetary system at length and the versions of top-down and bottom-up frameworks. The International Monetary Fund is losing its relevance in the world of finance because it does not know how to deal with a crisis of international dimensions even as the World Bank is not designed to handle financial crisis.  The time, according to Mr Mishra, is ripe for a “multilateral” international surveillance framework. He quotes from the discourse of Lord Krishna in the Mahabharata (“Be like a garland maker, O King, not like a charcoal burner”). Indian mythology also illustrates this. 

A garland has flowers of many hues and forms strung together for a pleasing effect while charcoal is the result of burning all kinds of wood and reducing diversity to homogeneous dead matter. The charcoal burner is reductionist and destroys diversity but the garland maker celebrates diversity. Instead of discriminating economies in terms of the powers they wield, Mr Mishra advocates a “common-friend-of-all-but-enemy-to-none” approach. Any takers?

Systemic Risk and Macroprudential Regulations: Global Financial Crisis and Thereafter

Rabi N Mishra; Sage, 455 pages, Rs 1,445