Indian policymakers have more to learn about the art of communicating with financial markets.
There is a huge difference between speaking/writing and communicating. And in the world of financial markets, policymakers should be engaged in constant communication in order to manage expectations. Indeed, the need for more effective communication is even more important in the current messy setting of global finance, where everyone is essentially flying in the dark with few working instruments.
Price discovery has to be left on its own within a framework of a clear policy framework. The underlying need for occasional handholding via communication is mainly to smoothen financial assets’ price gyrations, if there is a sense that either the markets are on a wrong track or, if they are broadly on the right track, their expectations are becoming unrealistic. New relevant information, especially about policy shifts, is precious but is often asymmetrical. It is policymakers’ responsibility to nudge market expectations from time to time with formal and informal verbal and/or written comments.
There has been a lot of noise over how much market expectations were off-course over the recent vote of account in which the government preferred to follow convention despite the unprecedented nature of the current economic crisis. In any case, there was little scope for doing much simply because the government had already announced some meaningful measures earlier, and the anticipated fiscal bleeding did not offer much flexibility.
But there was still some room for additional measures owing to the unprecedented nature of the current crisis. After all, former finance minister Jaswant Singh did not refrain from using the vote of account in 2004 to announce a slew of populist measures. Clearly, the urgency now is greater than what Singh felt five years ago to deviate from convention.
Why were market expectations so far off-course, and why was nothing done to dampen that enthusiasm? Actually, the fact of the matter is that comments in the print and electronic media from some ministers, some unnamed ministerial officials, and those perceived to be close to policy decision-making apparatus only fuelled such wild expectations. Indeed, Reuters in a February 10 dispatch quoted the head of the PM’s Economic Advisory Council (EAC) as indicating that the government may cut taxes and unveil further steps to stimulate the economy in its Interim Budget. Asked if tax cuts could be announced, he reportedly replied: “That is likely”. Note the choice of “likely”, not “possible” or “probable” or “perhaps”, or just “wait and see”.
From financial markets’ perspective, the ministry of finance and the Reserve Bank of India (RBI) are among the two relevant policymakers that frequently communicate with the markets. In recent years, the EAC under its former chairman, C Rangarajan, also emerged as a somewhat independent entity offering advice on some key macro issues that also contained some policy signals. For example, it was the EAC that correctly brought the focus on and the increased transparency to the government’s off-Budget subsidies via special bonds. In the absence of the EAC, perhaps the finance ministry would have been happy to avoid putting any number to these bonds, and the RBI would have been too much of a team player to say anything in public.
There is a lot that ministries in general and finance ministry in particular can learn from the RBI, even though the RBI is not perfect — few institutions in India are — it gets the job done despite the constraints it faces. One, the RBI always offers one considered view, and differences — and there are bound to be variations in opinion — are for internal airing only. In contrast, the finance ministry has often appeared to be engaged in mental gymnastics, relying on thinking-out-aloud in the media.
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Two, there are almost no unofficial comments from the RBI, whereas going by the number and frequency of quotes attributed to unidentified officials (sometimes reportedly senior officials), the finance ministry appears to be dripping with unofficial commentary.
Three, the RBI makes sure that complete homework is done when presenting anything to the markets. By contrast, when the vote-on-account was presented, it was initially not clear where the additional borrowing was going to come from. Investors sold off bonds, and seemed placated only when it was hinted that the extra funds would come from the unwinding of Market Stabilisation Scheme (MSS) bonds.
How do Indian policymakers fare when compared with others in the Asian region? Rather poorly, in my humble opinion. From personal experience, Indian policymakers (including politicians) tend to over-promise but under-deliver, while in most other Asian countries, actual delivery is better than the targets set, partly owing to conservative targets. One simple conclusion of that difference is that, by over-promising, Indian policymakers suffer from a credibility gap that is of their own making and something only they can fix.
Differences over the economic diagnosis and policy prescriptions are there in every country, but in India the dirty laundry is washed in public (and is still not cleaned!). There are too many “official” people hogging the media limelight, sometimes making comments without appreciating the significance of their implications for market expectations.
Frankly, there is scope for the RBI to improve its communication and signalling even more. RBI Governor D Subbarao seems to be building on the improvements put in place by his predecessor, YV Reddy, and has made a small start in the latest quarterly policy statement—it is significantly shorter than previous ones. However, it is still one of the longest monetary policy statements in the world, and continues to mistake the number of pages used with policy clarity and guidance. Not to mention that inaction in both October and January policies raises questions over the relevance of quarterly policies.
One of the key difficulties for the RBI in recent years has been an overly and overtly vocal finance ministry that has appeared to publicly interfere with monetary policy signals from the RBI. This interference has come despite the ministry seemingly unable to do its own job of properly adding up the Budget numbers, and at times appearing unappreciative of the global pressure points for the broader macro-policymaking. Essentially, the RBI often seems like a vacuum cleaner for the fiscal mess created by the government, even as it perhaps feels more constrained in its policymaking.
The bottom line is that, in contrast to the rest of the region, there are way too many people in the government talking of what the RBI is going to do, as opposed to what it might or could do. To undermine the central bank could also mean hurting investor confidence. Perhaps, Prime Minister Manmohan Singh should have a teach-in to check the damage from the ongoing media diarrhoea of some of the stakeholders in the government.
The author is head of India and Asean economics at Macquarie Capital Securities (Singapore).
Views expressed are personal
This article was written before the government decided to cut excise and service tax levies across the board, eight days after it chose not to do anything in the Interim Budget