The Reserve Bank of India clarified that Governor Raghuram Rajan did not say the world was at risk of another Great Depression. Instead, Dr. Rajan had meant that some policies followed by central banks around the world were similar to those followed prior to the Great Depression, but that the Great Depression was caused by many more factors as well.
The Press Trust of India had on Thursday quoted the RBI Governor as saying “the question is are we now moving into the territory in trying to produce growth out of nowhere, we are in fact shifting growth from each other, rather than creating growth. Of course, there is past history of this during the Great Depression when we got into competitive devaluation.”
The Governor had been talking at the London Business School (LBS).
The RBI clarification on Sunday said that “what Governor Rajan did say… was that the policies followed by major central banks around the world were in danger of slipping into the kind of beggar-thy-neighbour strategies that were followed in the 1930s… The Great Depression was a period of great turmoil, caused by many factors and not just beggar-thy-neighbour policies. Governor Rajan did not imply or suggest that there was any risk of the world economy, which is in steady recovery notwithstanding uncertainties like those in the Euro Area, slipping into a new Great Depression.”
This ‘beggar-thy-neighbour’ strategy the Governor had referred to in his speech is what he termed ‘competitive monetary policy easing’— a likely product of the prolonged use of measures such as central banks holding interest rates at near zero, as well as policies that affect central bank balance sheets such as buying assets in certain markets so as to affect market prices.
In a document on which his LBS speech was based, Dr. Rajan made clear that if the strengthening of a currency due to such policies leads to “a continuation of the unconventional policies as the country’s authorities become unwilling to give back the growth they obtained by undervaluing their currency, this rationale [that a deep recession necessitates any means necessary to recover] is suspect.”
Moreover, he added, policies that encourage sustained unidirectional capital outflows to other countries can be very debilitating for the recipient’s financial stability, over and above any effects on their competitiveness.
He further made clear that it was not a legitimate argument for a country to see its domestic mandate as superseding its international responsibilities.
Greater role for IMFDr. Rajan concluded by saying that it is time for international agencies like the International Monetary Fund to step in with a greater role.
“The bottom line is that multilateral institutions like the IMF should re-examine the ‘rules of the game’ for responsible policy, and develop a consensus around new ones. No matter what a central bank’s domestic mandate, international responsibilities should not be ignored. The IMF should analyse each new unconventional monetary policy [including sustained unidirectional exchange rate intervention], and based on their effects and the agreed rules of the game, declare them in-or out-of-bounds,” he said.
