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Updated: December 5, 2010 14:41 IST

Weak transmission mechanism

D. Murali
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Post-Lehman, we seem to be smug about our ‘rudimentary and unsophisticated financial system where regulation is very tight, securitisation and other complex derivatives are largely disallowed, and banks behave conservatively,’ observes Dhiraj Nayyar in one of the essays included in ‘Surviving the Storm’ (Penguin). Acknowledging that the Indian financial system has been widely praised for its resilience in the crisis, he alerts that before we get carried away by the accolades, it is important to note the costs of an unsophisticated financial system, which may outweigh the benefits of conservatism.

For example, an underdeveloped financial system blunts the effectiveness of monetary policy in a slowdown because of a weak transmission mechanism, mentions Nayyar. “In more sophisticated systems, a cut in rates by the central bank almost immediately translates into a corresponding fall in the lending rates of commercial banks.”

The author foresees that the transmission in India will continue to remain weak until determined policy action is taken to liberalise and deepen the bond, derivatives and currency markets.

Worthy collection of essays that should interest finance professionals.

**

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