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A new argues that that regulatory forbearance can generate sector-specific temporary growth, but it often leads to a broader, widespread bust. Photo: iStock
A new argues that that regulatory forbearance can generate sector-specific temporary growth, but it often leads to a broader, widespread bust. Photo: iStock

Encouraging risky behaviour by banks seldom pays off

Allowing banks to operate more freely during times of economic slowdown, with the objective of supporting growth, might not yield any sustainable result

The ‘kick the can down the road’ approach is a major contributor to India’s current banking mess. Banks did not declare their bad lending due to regulatory loopholes for a long time. Supporters of such an approach argue that it helps in maintaining economic growth by ensuring credit supply. A new paper by Sean Hundtofte, economist with the Federal Reserve Bank of New York, says that such a strategy can be counter-productive in the long run. The paper argues that regulatory forbearance can generate sector-specific temporary growth, but it often leads to a broader, widespread bust. His findings are based on the experience of different states in the US during the savings and loan crisis of the 1980s. States which allowed banks to function despite lower-than-minimum capital requirements, witnessed a greater supply of higher-risk loans, greater construction activity, job creation and new business starts. However, after normal regulatory requirements were reimposed, these states saw larger contractions in real estate and around 3% decline in gross domestic product, coinciding with a recession in 1990-1991.

Read more: Does Going Easy on Distressed Banks Help Economic Growth?

Excessive audits can often be counter-productive to the goal of increasing transparency in government procurements from private players. A National Bureau of Economic Research (NBER) paper by Maria Paula Gerardino, Dina Pomeranz and Stephan Litschig from Inter-American Development Bank, Harvard Business School and National Graduate Institute for Policy Studies, Tokyo, has studied public procurement in Chile to make these arguments. Their findings show that audits are more likely to check and find fault with auction-related purchases than direct purchases. This is because auctions are complicated processes and hence auditors can find fault over more rules. The latter does not require inviting bids from multiple players and is hence less transparent. Because of this, bureaucrats prefer to use the direct purchase route, invoking clauses such as emergency needs, etc. This is proving to be detrimental to the government’s objective of promoting transparency.

Read more: Can Audits Backfire? Evidence from Public Procurement in Chile

The US’s ability to increase its crude oil production in response to rising oil prices has risen nine-fold post the shale revolution, according to a new study by Richard G. Newell and Brian C. Prest, researchers with the Duke University. Simulations by authors show that if crude oil price rises to $80 per barrel from the current level of around $55, then the US’s oil supply will rise by an extra 2 million barrels per day (mbpd) in the next two years. This would be equivalent to two-thirds of the projected increase in global oil demand in the next two years. Nevertheless, the US still has some distance to cover before it can claim the position of a “swing producer" which can affect prices. This is because countries such as Saudi Arabia are often able to respond even more quickly, i.e. within three months, to changing market conditions.

Read more: The Unconventional Oil Supply Boom: Aggregate Price Response from Microdata

Incentive-based pay can affect different groups of workers differently, shows an NBER paper by Derek C. Jones and others, researchers with the Bank of Finland. Their study shows that at least in large firms group-incentive pay is associated with higher attrition rates among white-collar workers. The authors attribute this to factors such as increased stress, deteriorating industrial relations and problems of free riding. Among blue-collar workers individual incentives lead to higher employment stability in both large and small firms. The study also finds that undesirable work schedules are linked with higher risk of worker separations. Given the importance of promoting employment stability in policy making, the authors call for more research on the issue.

Read more: Worker separation under performance pay: Empirical evidence from Finland

The Reserve Bank of India (RBI) is reported to have a group looking at cryptocurrencies as legal tender. Now, the International Monetary Fund (IMF) has also supported this approach. Central banks might be well-advised to seriously consider issuing their own digital currencies, said Dong He, a senior official with the International Monetary Fund (IMF), in a recent speech. A “central bank digital currency" (CBDC) would simply be a digital version of the existing national currency. He argued that leaving the digital space entirely to private players may not be prudent lest some private players acquire monopoly-like powers. Besides, involvement of central banks might also resolve many coordination issues. Cross-border transactions could also possibly be made cheaper and easier in future if central banks make use of rapidly evolving technology. Specifically, he discussed the utility of distributed ledger technology (DLT) to facilitate cross-border payments. DLT refers to the decentralized system of recording transactions simultaneously at multiple places.

Read more: Fintech and Cross-Border Payments

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