The Indian Finance Ministry has asked the Reserve Bank of India (India's central bank) to consider introducing Credit Default Swaps (CDS). I think this is a welcome step.
In my post of April 8, 2007, I had argued about the need to enhance liquidity in the debt market. Credit derivatives are essential tools to mitigate risk and the introduction of the derivatives is a step in the right direction. However, introducing CDS alone will not be enough - credit derivatives market cannot be moved onshore unless India moves steadily towards full capital account convertibility.
Some people argue that India should never allow full capital account convertibility. In their defence, they cite the example of how some of the East Asian countries were battered during the crisis of 1997. The article by Easwar Prasad and Raghuram Rajan (link) offers a balanced perspective.
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7 comments:
full capital account convertibility in india!!!... are you kidding me?.. they broke the bank of england in 92, they broke the ringit,baht,rupiah,etc in 98, they broke the krona in 2008. your currency is only as safe as your reserves are deep. ours are what 300 billion?.. we are a deficit spending third world nation. it only takes a hedge fund with 100 billion dollars (with 10x leverage) to beat the shit out of any third world currency. couple of months back yv reddy went through 80000 crores of MSS bonds to keep the currency stable.. and yet you wish for a fully convertible rupee? are you an ISI agent in disguise?
look there is no such thing called a "free market" however we pretend otherwise. protectionism is our only refuge in this world.
"...Stock markets became more and more volatile; between 20 October and 23 October the Hang Seng Index dropped 23%. The Hong Kong Monetary Authority then promised to protect the currency. On 15 August 1998, it raised overnight interest rates from 8% to 23%, and at one point to 500%. The HKMA had recognized that speculators were taking advantage of the city's unique currency-board system, in which overnight rates automatically increase in proportion to large net sales of the local currency. The rate hike, however, increased downward pressure on the stock market, allowing speculators to profit by short selling shares. The HKMA started buying component shares of the Hang Seng Index in mid-August.
The HKMA and Donald Tsang, then the Financial Secretary, declared war on speculators. The Government ended up buying approximately HK$120 billion (US$15 billion) worth of shares in various companies,[20] and became the largest shareholder of some of those companies (e.g. the government owned 10% of HSBC) at the end of August, when hostilities ended with the closing of the August Hang Seng Index futures contract. The Government started selling those shares in 2001, making a profit of about HK$30 billion (US$4 billion)..."
now imagine this in india... i am getting slowly convinced, you are indeed an ISI uLavaaLi..
There will be risks, but one needs to have a plan to mitigate the risks and a time bound plan to move towards liberalization. What’s the point in introducing credit default swaps if you have a non-functional corporate debt market?
The only reason why reforms are slow to take off is because of our fragmented democracy and because we have a bureaucracy that has no incentive to perform. When a crisis hits the global financial system, the closed nature of our economy shields us from many of the harmful effects, but it is hilarious to see our bureaucrats shamelessly claim it is their inaction which saved the Indian economy from a catastrophe....
>>There will be risks, but one needs to have a plan to mitigate the risks
the only way to defend your currency against speculation is to jump in itself. the hong kong example was the logical conclusion - the monetary authority was buying shares to prop up the index and currency. Indra Gandhi had a word for such actions - Nationalization.
So what you have here is - you want to puruse a path to liberalisation which will surely lead to speculative attacks on the currency which can be defended by the Govt wading into the currency and stock market which means the govt has to own significant portions of equity with tax payer money, which is called Nationalization in some places in the world.
anniya kai kooli vishwanath ozhiga..
Let's get one point clear - India needs capital to build its infrastructure - some people have put the number at close to $500 billion....
We need a vibrant debt market to raise this kind of money, but the Indian market just lacks liquidity. Our companies are forced to go abroad every time they need to raise big monies... this is so inefficient. In many cases, the cost of foriegn debt is higher than domestic debt (after taking into account the hedging costs). One needs to have greater liquidity in the domestic market to make capital available and also bring the cost of capital down.
Just raising the bogey of speculative attacks is not a good enough reason to starve India of its infrastructure needs.
i dont understand why you are dismissing speculative attacks as just a bogey? They are a fact of life. are you implying that if we deny them enough, they will cease to happen?
let me restate my case:
i) It is relatively cheap to mount speculative attacks. This has been proven time and again. And there is a high probability, there will be attacks. And a country like India where deficit funding by the state is the norm, will attract speculative attacks like bees to honey. In the past sixteen years, we have seen attacks on
1)Pound sterling - 1992
2)Mexican Peso - 1994
3)Thailand Baht - 1997
4)South Korean Won - 1997
5)Malaysian Ringit - 1997
6)HK Dollar - 1997
7)Indonesian Rupiah - 1997
8)Phillipine Peso - 1997
9)Chilean Peso - 1997
10)Russian Rouble - 1998
11)Brazil Real - 1999
12)Argentine Peso - 2000
13)South African Rand - 2001
14)Icelandic Krona - 2008
15) Pakistani Rupee - Multiple Attacks over the years
16)Ukraine Hryvna - 2008
17) Aussie dollar - 2008
18)New Zealand Dollar - 2008
19)Hungarian Forint - 2008
ii) It is extremely costly to mount a defense against them. The Icelandic central bank lost that battle earlier this year. And they had a pretty deep warchest to begin with. The hedge funds have leverage while the Govt does not. The Hedge funds will bring a bazooka while the govt has a six shooter.
iii) Indian infrastructure needs "only 500 billion dollars". To defend against a well mounted attack, the govt needs atleast as much money.
iv) do you see the logical hole?. For raising 500 $ billion dollars, you are going down the road, where the govt needs atleast that amount of money as insurance. what is the risk reward ratio here?
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