Global capital flows have been retrenching from emerging market (EM) economies since end-February in the wake of Russia's invasion of Ukraine. Another factor for this situation is the higher-than-anticipated persistence of inflation in advanced economies, which is expected to continue to dictate the monetary policy globally. Also, an oil and commodity price shock has aggravated the situation for countries that are net importers.
Circumstances have been ripe for global investors to fly to safety - to rebalance out of large EMs such as India, Brazil, Indonesia, Mexico, South Africa and Turkey, into the US and other advanced economies. The immediate impact of this rebalance is being felt by EMs on their currencies, equity markets and bond yields.
Have global developments had a disproportionate impact on India?
No, as most other countries have faced similar implications. In some ways, the shock itself has been harder for India than many other countries because of it being an oil importer, a reasonably integrated economy through trade, and a large recipient of capital flows in the last two years.
Yet, it has so far escaped the worst, obvious from the rates of depreciation of the exchange rate during end-February 2022 till now, which have been as high as 20% in Turkey, 17% in Chile, and 11% in Thailand. Even South Africa at 9%, Brazil at 8%, and the Philippines also at 8%, have experienced higher depreciation rates than India (6%) during the same period. Only Malaysia at 5%, and Indonesia at 4%, have lower rates than India.
Similarly, equity markets have taken a hit across almost all the large EMs. The decline in equity prices has been 12% each in South Africa, the Philippines and Brazil; 10% in Malaysia; 9% in Thailand; and 8% in Mexico. The decline in India has been 6%.
Has India's response been in the desired direction?
Of the desired magnitude?
In the right sequence?
In a 2018 World Bank working paper, Oliver Masetti and I analysed the policy kit that central banks in EMs .use to handle such external volatility. This tool kit comprises monetary policy, exchange rate, foreign reserves and capital flow measures. We found that of these, the most readily used measures are monetary policy, exchange rates and foreign reserves. The capital flow measures are used sparingly.
Read more at: https://economictimes.indiatimes.com/opinion/et-commentary/why-the-exchange-rate-ought-to-be-treated-as-an-automatic-stabiliser/articleshow/92860189.cms
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