The expansion of the Indian economy or the trade cycles have been short compared to the Western countries like the US that expanded over 10 years since the 08 recession and China that saw an expansion of 3 long decades, the expansion in INDIA has been short lived, less than 5 years, same as in the previous cycle after 08, attributed to overheating in the economy linked to food and fuel prices and higher cost of capital and incomplete communication by the policy makers,
Like the central bank failed to provide the right forward guidance to the agents, especially the investors, both the foreign and domestic, which point to weak supply side given higher inflation and interest rate, too, on which the trade cycles depend, during the up cycle prices or inflation and interest rate increase, which further increase inflation and interest rate by lowering supply and employment and demand, too, and set the precedent for the down cycle or recession in which inflation and interest rate go down which again precede higher inflation and interest rate, that is a chain cycle, one is followed by the other…
Nonetheless, in the current cycle the lower fiscal deficit has kept inflation and inflation expectations low since it directly increases employment and demand, when the monetary policy increases supply and investment and employment in the sectors that are overheating or have higher price or price expectations if the economy is below full employment.
However lack of updated data on employment has made the polices prone to frequent changes in policy stance even when INDIA is underemployed and underinvested, which may lower inflation and inflation expectations if employment and supply increase with lower interest rate and expectations, the government has underscored its commitment to lower fiscal deficit and debt, but the monetary policy is slow to recognize this and has maintained a tight policy keeping the inflation targeting in mind when INDIA is supply side weak and needs more investment…
Even the exchange rate regime has been such to increase imported inflation in the event of higher oil prices and inflation and depreciation, notwithstanding CAD has been low compared to the past, and lower fiscal deficit has helped lower depreciation, when there is a sect that is advocating higher exports to improve the CAD and foreign exchange earnings at a time there has been a hold on the private investment because of the higher interest rate that has also not let the exports to materialize and increased outflows of foreign exchange amid inflation and depreciation, further worsening inflation and depreciation, which the RBI is trying to correct by increasing the supply of dollars and reducing rupee liquidity which has increased interest rate on debt or bonds resulting in low investment demand, in the stock market, also.
Higher interest rate and expectations are bigger worry for domestic investment, including exports, bonds and stocks, too, than worsening cad and depreciation, which are dependent on the exchange rate management through foreign exchange reserves and exchange rate targeting to keep further outflows and inflation and depreciation in check... nobody complains appreciation in the exchange rate, but depreciation, which could help lower inflation and interest rate and expectations...
The problem is when the policy makers, especially the RBI, try to stop inflation or deflation and depreciation or appreciation, based on the text-books’ theories, they aggravate the problems, for example, if there is inflation and depreciation in the exchange rate in the economy, higher interest rate would exacerbate the problem of lower supply, imports, too, in a bid to lower demand, which also reduces employment and production that further increase inflation and expectations, on the contrary, when there is deflation and appreciation in the exchange rate, lower interest rate would further increase supply, imports too, that would again lower prices or increase deflation and both are always followed by each other and in this sense we might say that inflation and deflation are caused by the changes in the interest rate cycle or monetary policy cycle, the time consistency problem of the economic policies has been identified as one the most pressing concerns by Kydland and Prescott.
However, a constant and stable interest rate and exchange rate and expectations to achieve full investment, full employment and full output, exports-imports, too, would signify a stable prices and interest rate regime and could help agents adapt to movements, when a shock hits the equilibrium, a neutral real interest rate at full employment could help lower swings in cycles and adjustments….
No comments:
Post a Comment