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On a high note

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Business Standard New Delhi
Last Updated : Jun 14 2013 | 2:39 PM IST
 
There may be only a tangential connection to the fact that RBI's longest-serving Governor "" and the first to attend office in his shirt-sleeves and open-toed sandals "" leaves behind a remarkable record.

 
Inflation is low, the foreign exchange reserves are high, liquidity is comfortable, interest rates are finally where they should be, and the banks are in vastly improved health. What could one ask for? That some of it should have been done earlier, especially the dropping of interest rates.

 
And it would have been a cleaner record if the cooperative banks hadn't been falling over like nine-pins. But coming in at the time of the Asian currency crisis, and with a broad policy approach that broadened RBI's traditional monetarism, Dr Jalan showed how non-dogmatic measures can deliver admirable results, even as he demonstrated how effective monetary policy can still be, despite an unrestrained fisc.

 
More concerned in the past with development issues than monetarist niceties, Dr Jalan made monetary policy sensitive to the concerns of overall economic policy. He recognised that financial liberalisation, despite many gains, had engendered many crises.

 
He saw a marked increase in exchange rate volatility and swings in capital flows that made the financial system more uncertain, indeed unstable.

 
This, along with the fact that the Bretton Woods architecture was not designed to cope with these new realities led him to articulate the view that the responsibility for coping with the new realities was that of the country alone; no external help could or should be expected. The practical response in terms of policy action followed.

 
During his six years, Dr Jalan used interest rates to facilitate rather than engender an upswing in the business cycle. He managed the exchange rate by recognising the need for flexibility but retaining the ability to intervene when necessary.

 
He had a low opinion of the domestic foreign exchange market because he realised the market was thin and a few traders could swing the sentiment. So he would occasionally surprise them with unexpected interventions, just to let them know that Big Brother was watching and had to be watched.

 
Conscious of the fact that there is no lender of last resort for foreign exchange, he ensured a high level of foreign exchange reserves that took into account the liquidity at risk arising from unanticipated capital movements.

 
Learning from the Latin American experience that when it comes to foreign direct investment and portfolio investment, there is a cost involved for the foreign investor in quickly reversing such flows (which is not so in respect of short-term fixed-interest banking capital), his management of the capital account was judicious.

 
Consistently he advocated avoiding short-term banking capital for financing investments and growth.

 
The results are there for all to see. Interest rates have been brought down, foreign exchange reserves have been doubled in the last three years to a level that takes care of all reversible capital flows, and short-term debt is at a low-low level, with RBI's forward liabilities at less than 1 per cent of its reserves.

 
The flexible but managed exchange rate system has ensured that the exchange rate is less volatile than in other emerging markets even as it is broadly realistic and competitive.

 
There has been a substantial increase in capital flows, particularly foreign direct investment, and much greater confidence among foreign investors in the macroeconomic stability of India.

 
Dr Jalan began to get credit for much of this a long time ago in international financial circles; it is only more recently that domestic analysts have recognised the measure of his achievement in what is a lonely job.

 

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First Published: Sep 01 2003 | 12:00 AM IST

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