Mumbai: There was not a single day in March this year when the Reserve Bank of India (RBI) had to infuse liquidity in the financial system, the first such month in the last few years.
It was quite a feat for a central bank that just months earlier was frenetically pouring money into a financial system shaken and stirred by the sudden outflow of foreign capital from the Indian stock market, following the September 2008 collapse of investment bank Lehman Brothers Holdings Inc. Credit became scarce and interest rates shot up before RBI stepped into calm the domestic money markets.
Fine balance: Reserve Bank of India governor D. Subbarao at a press conference in Mumbai in January. Since September, the bank released some Rs4.22 trillion into the system to help push the economy back on track. Abhijit Bhatlekar / Mint
Liquidity was the overarching theme in the Indian financial markets in 2008-09. Too much of it had pumped air into an asset bubble and fanned inflation in the first half of the year, forcing RBI to push up interest rates. Then there was too little of it as the full impact of the global financial crisis hit India, forcing RBI to ease policy.
While the Economic Survey 2008-09 commended the government and the central bank for the way they handled a year of extremes, it also cautiously called for further reforms in the financial system.
Thus, it called for a “phased increase” in foreign direct investment limits in banks and “greater entry” of foreign banks. It also talks of the need for “tighter regulation of investing banks and other foreign entities”. And even as the survey reiterated the need for more financial and commodity derivatives to help firms manage risks, it suggested that these products be traded on exchanges rather than through private deals. Deals done on exchanges are easier to police than those struck privately.
“The measures initiated on the monetary front were in the nature of an accommodative policy to ensure that there were no liquidity constraints in the economy,” the survey noted. “Coupled with the expansionary fiscal policy, the initiatives have had a favourable impact on domestic monetary, real and financial sectors.”
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“Last year was a year of contrast,” said Harihar Krishnamurthy, treasurer of the Indian unit of South Africa-based FirstRand Bank Holdings Ltd. “The story of the first six months got completely reversed in the last six months.”