Articles by Renu Kohli

With the emergence of a "two-speed" world in the aftermath of the 2008 crisis, financial flows are expected to flood emerging markets' shores, including those of India which has positive growth and interestrate differentials vis-à-vis the advanced countries. This article discusses existing policy options for India and concludes by emphasising the need to evolve a medium-term response strategy, one of whose elements include countercyclical fiscal responses.

It has been argued for India that the increase in capital mobility has made existing controls ineffective, eroding the central bank's influence over the short-term interest rate and that it is time, therefore, to abandon the managed exchange rate regime to regain monetary control. This note shows that the "loss of monetary independence" argument lacks empirical basis. Convergence between India and the rest of the world, though increasing, is as yet incomplete. A variety of tests shows imperfect financial integration, suggesting the Indian economy to be in the intermediate stage, i e, on the transition to full capital mobility, a feature that allows an eclectic monetaryexchange rate policy combination. With no strict trade-offs between the three policy goals posited under the trilemma, there is, as yet, no compromise on monetary independence that would justify a shift towards a free float.

Strengthening the financial sector and the capital markets is among the major objectives of the finance minister's declared budget strategy. However, evaluating the proposals for the financial sector against the yardstick of this claim, it is disappointing that much-neglected aspects of financial sector reforms do not even figure in the budget.

The short experience with liberalisation of capital inflows documented in this paper highlights the pressures of a capital surge upon domestic monetary management. It also reveals the additional constraint of fiscal-led monetary expansion in India, which raises aggregate demand and aggravates the inflationary impact of capital inflows. These pressures complicate macroeconomic management as the only variable that can be varied in this scenario to control inflation, or adhere to a monetary target, is domestic private sector credit.

Budget 2001-2002 suggests a shift towards monetary policy in reviving an economic downturn, as in advanced economies like the US and Germany. In principle, there is nothing wrong in the use of monetary policy rather than fiscal policy, as the former has shorter lags. The question however is whether the link between investment and interest rates is as tight in India. The second point is the fast disappearing role of public investment as a tool to spur private investment.