• Capital movements

Capital movements

Many observers believe that India can rely on its foreign exchange reserves to weather a storm in the international financial markets. This paper, however, contests this view. Due to liberalisation, it argues, volatile foreign capital in India exceeds the country's foreign exchange reserves. A balance of payment crisis is not only possible but increasingly likely as:

• persisting deficits and over-dependence on capital inflows have amplified the risk of investing in India
• foreign investors avoid this risk causing a high foreign exchange drain

Close to bankruptcy, India has lost its fiscal and monetary autonomy. The governments continuing effort to keep the Sensex (India’s major stock index) at a high level will either lead to a continuing resource drain or even accelerate the resource outflow until the Sensex finally falls.

To contain rising social tensions, macro- and microeconomic policies need to be radically changed:

• the government needs to let the Sensex find its own level
• foreign investments should be folded up over a period of about three years
• fresh inflows should have a minimum lock-in period of one to two years
• the RBI should be free to reduce interest rates drastically
  

Lower interest rates would greatly reduce the government's debt. Also, a falling Sensex would lower the market value of foreign investments and thereby further reduce India’s external liability. Consequently, India could dispense more for a variety of socially fruitful projects with huge multiplier effects.

• Full text of document
• Publisher details
• Send to a friend