Substantial capital inflows have once again started. This was only to be expected since India is one of the few countries still growing in a stagnant world with opportunities of earning impressive returns on investments. The rise in direct foreign investment indicates confidence of the foreign investor in the future of the economy. The downside is the central bank’s problem in riding on two horses — forex rates and domestic money supply. The Governor of RBI made certain thought-provoking remarks at the G-30 International Banking Seminar in Istanbul during the IMF-World Bank annual meet. While referring to the three options for the central banks of emerging economies to deal with capital inflows, he said that they could refrain from market intervention, or intervene either with or without sterilisation. He opined that while sterilised intervention can exacerbate fiscal pressures, it needs to be assessed against the benefits of macro-financial stability.
There is enough empirical evidence to show that sterilised intervention has only a temporary effect on the exchange rate, which will be back to square one soon. It is ineffective vis-à-vis the fundamentals of exchange rate determination. It is the reason why the developed countries gave up market intervention long ago. The inflows occur because of the differences in returns across the world. They could be in yields or in capital gains. Sterilised intervention causes no changes to the differences. Hence forex inflows will continue. The solution to the problem of export competitiveness, when the domestic currency appreciates, is to make productivity gains and/or absorb the decline in profits by not making changes in the dollar prices of the commodities and services. Japan has done it successfully through so many episodes of yen appreciation. By fiscal relief or market intervention the authorities make it unnecessary for the export sector to make any effort to improve productivity. The decline in exports is due to the falling incomes of the importing nations. In the past when rupee appreciated, we saw export growth in double digits because the rupee was still undervalued in terms of purchasing power and the developed countries were experiencing a boom. The RBI should leave the rupee alone.
A Seshan, on email
KLG Systel
‘Forget Ambani, think Goenka’ (October 8) says that KLG Systel’s wholetime director Mukesh Arora takes home a salary/commission that equals 3.1 per cent of the company’s sales, 21 per cent of net profits and 2.9 per cent of net worth. The figures that we sourced from Capitaline showed Arora took home Rs 7 crore — the company’s annual report, however, makes it clear the figure is Rs 0.7 crore. We regret the error.
