Challenges loom for new India reserve bank chief
By Pauline ChiouIt would be an understatement to say Raghuram Rajan has a plate of challenges as the new head of the Reserve Bank of India. He comes into the new job as India's economy has become a collection of superlatives: weakest level for the rupee, lowest growth rate in four years and a record high current account deficit.
September 6, 2013, 12:37 am TWN
By all accounts, he's a smart guy who was chief economist at the International Monetary Fund.
At age 50, he is a young central banker who may have the vision to shake things up.
So what's the main problem? The current account deficit - its level of imports compared to exported goods and services — is too big. It is 4.8 percent of GDP. Last Friday, Prime Minister Manmohan Singh promised to lower it to US$70 billion this year and eventually slice it by nearly half to 2.5 percent of GDP. That's a tough sell especially after GDP growth for the quarter ending in June was 4.4 percent — the worst since 2009. The days of easy money are gone. With the prospect of Fed tapering, international investors have pulled money out of India. You need foreign reserves (e.g. U.S. dollars) to fund the current account deficit.
So what is the first step towards fixing the problem? “”What we need to see from the government and central bank is the ability to boost reserves by about US$15-20 billion either through a sovereign bond offering or NRI (Non Resident Indian) dollar bond offering or through lines of credit through other central banks,” says Rahul Chadha, co-chief investment officer of Mirae Asset in Hong Kong. “Once the market gets confidence that the central bank has US$15-20 billion and is going to prevent this sharp volatility in the rupee, the market will look at the medium term fundamentals.”
NRI bonds are issued by government-owned banks to Indians living abroad and they offer a high dollar interest rate. Chadha says these bonds could realistically bring in US$10 billion.
Of course, the picture is muddled by a few other problems. Growth is slowing with lower exports. The rupee is has lost 20 percent of its value since May.
Inflation is high. Does the central bank raise rates to attract foreign investors looking for yield and also strengthen the rupee or will higher rates scare off local businesses and slow down growth even more?
There are no simple answers.
Capital Economics, the economic research firm, says in a recent report, “The worry is not that capital outflows trigger a currency or financial crisis. Instead, the concern is that the policy response to currency weakness will sap what little vitality the economy currently has.”
Rajan may be starting his new job on one bright note: Expectations are low so it'll be difficult to disappoint.
Pauline Chiou is a CNN anchor/correspondent and the co-host of 'World Business Today' based in Hong Kong. Follow Pauline on Twitter @PaulineCNN. For more business coverage, go to www.cnn.com/business.