All the talk about tapering the bond-buying program turned out to be mere talk after all. The US Fed decided not to taper just yet. But then why did chairman Ben Bernanke ring the alarm bells back in May?
Emerging markets were the worst hit when Bernanke first suggested that a tapering of the bond-purchasing program was a possibility, and extremely likely. Bernanke’s mere warnings roiled the global currency and bond markets and almost sent emerging economies through a tailspin. Emerging economies such as India were hurt the worst.
The Indian economy, which was chugging along smoothly, suddenly found itself in the middle of a US nor’wester. Bond yields, which had been hovering near the seven percent mark, started soaring back and all economic growth forecasts went into a tailspin.
The Reserve Bank of India fought hard to counter the carnage on the rupee front even as it jacked up short-term rates exorbitantly. It was compelled to invert the yield curve. In trying to curb speculation on the rupee, the RBI had to resort to slowing down the Indian economy. Classic economics suggests that an inverted yield curve is an early warning sign of a recession or, more pertinently, a slowdown for the Indian economy.
Sure, global emerging economies such as India are heaving huge sighs of relief. As the tapering has been postponed, financial asset markets will get new wings again. Stocks and bonds will soar, and gold will rise. For India, this is a much-needed saving grace that would see some dollars, which have flown out in the last two months to the tune of nearly $8 billion, start to flow back into the economy.
But the cost of the tapering talk has been huge. The RBI has depleted its foreign-exchange reserves in trying to fight the flight of precious dollars from Indian shores. Indian stock- and bond-market investors lost heavily. Financial-planning models went for a toss as investors tried to salvage their losses and re-work plans.
Nobody denies that the tapering has to come to an end. But everybody was forecasting that there would be slower bond purchases, reading into the statements of the US Fed chairman. Markets had started to factor in such slower bond purchases.
But then, by letting the cat out of the bag too early, Bernanke has generated huge stress in many emerging economies. He said at the recent FOMC that the communication of monetary policy is very important now. Yes, it is. It’s more important now than ever before, especially with too much money involved - and given that the US economy has become such a dominant influence in shaping the monetary policy of the rest of the world.
