One thing I constantly argued with my friends on Mr Reddy’s monetary policy but they never agreed. But the devil’s is in detail now!
According to economist Ila Patnaik
- Governor Reddy came in, at first, exchange rate flexibility was increased. But the RBI then shifted gears to fighting appreciation. But now, currency trading was hard. Every time the RBI bought dollars, it injected rupees into the economy. This resulted in persistent inflationary pressures. Every lever that the RBI controls — monetary policy, public debt management, banking regulation, securities regulation, capital controls, etc — was used by Dr Reddy to focus on the exchange rate. The longstanding effort of phasing out CRR was reversed. The tools of prudential regulation of banking were pressed into service. Tactical details of issuance of government bonds were adjusted to suit the RBI’s need to undo the flood of rupees unleashed by its currency trading. Help was requested from the finance ministry for fiscal resources for this battle, through the “Market stabilisation scheme”.
- Dr Reddy was on the wrong side of history. When a central bank prevents rupee appreciation today, financial markets expect that appreciation tomorrow, which triggers off a capital surge into the country with investors seeking to profit from the coming rupee appreciation. When Indian companies expected rupee appreciation, it was advantageous to borrow in dollars and not hedge this currency risk. Capital inflows are driven by the policy stance of the RBI on the exchange rate, and the Reddy regime sucked capital into the country.
- This battle overshadowed Y.V. Reddy’s period as governor. A cost-benefit analysis of this period is instructive. On the cost side, Reddy generated distortions of monetary policy, banking, securities markets, capital controls, public debt management and public finance. On the benefit side, Reddy subsidised
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