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Reflections on Indian Financial Markets

Partha Ray

t may not be an exaggeration to say that the recent past of The relationship between the banks and the NBFCs has
the Indian monetary and financial sector has been marred acquired significance in recent times. Wasim Ahmad, Bhaskar
by a number of not so encouraging occurrences. A governor of Pathak and N R Bhanumurthy in their paper, “Understanding
the Reserve Bank of India (RBI) resigned abruptly citing personal Systemic Symptoms of Non-banking Financial Companies,”
reasons, select senior officials of Indian banks (both private and look into the nature of the interconnectedness between these
public) dominated the newspaper headlines on issues related to institutions. Using the weekly data for 31 Indian banks and
integrity, there were complaints of lack of pick-up in credit growth 17 enlisted NBFCs, they calculate a state-of-the-art measure
that accentuated in the aftermath of a major liquidity crisis in a of interconnectedness at the 1% tail quantile. While tracking
leading non-banking financial company (NBFC), the Indian rupee the broad temporal trends in the aggregate interconnected-
experienced some roller-coaster dive. And the list could go on. It is ness, their results also indicate a hierarchy of various specific
at this juncture that this special issue on money, banking and fi- institutions that are more interconnected than others.
nance—through its five papers—looks into some such issues and Since the mid-2000s, there have been various changes in the
beyond, in an effort to decipher the sublime from the mundane. monetary policy operating procedure and the liquidity man-
The first paper by Y V Reddy takes a look at the central banking agement framework in the country. Illustratively, by mid-2011,
in India both retrospectively and prospectively. The author nar- fixed overnight policy repo rate emerged as a single policy rate
rates the post-independence experience of the central bank in with the weighted average of call money rate as the operating
India in terms of four distinct phases, namely, 1950 to 1970, 1970 target. Subsequently, India adopted a flexible inflation target-
to 1990, 1990 to 2010, and post 2010. With the primacy of the ing framework by mid-2016. Edwin Prabu and Partha Ray in
planning process, Reddy has characterised the period from 1950 their paper on monetary policy transmission across various
to 1970 by planned fiscal dominance, a trend further accentuated segments of the Indian financial markets examine the impact
between 1970 and 1990 with an inward-looking bias in both of such changes on money, G-Sec, corporate debt, foreign ex-
the fiscal and the financial sectors. The period of 1990 to 2010 change, and the equity markets. The findings indicate suffi-
evidenced differences arising between the RBI and the Govern- cient period-specificity of transmission of monetary policy
ment of India in the areas of monetary management and external across different segments of financial markets. While the trans-
sector, despite both having partnered in crisis management and mission is found to be fast and efficient for the money and bond
reforms of the financial sector. In the aftermath of the global markets, the impact of the policy rates on the foreign exchange
financial crisis, the period since 2010, however, is broadly char- and stock markets is rather limited.
acterised by the rebalancing and adoption of a new framework, In the last paper, “Financial Literacy and Financial Inclusion:
that is, inflation targeting. Referring to the recent stand-off Unbundling the Nexus,” Saibal Ghosh explores the question of
between the RBI and the government, Reddy notes, whether financial literacy has any bearing on financial inclu-
The immediate future of central banking in India depends not only on sion. Using district-wise data on Financial Literacy Centre
how it equips itself to face the complex unclear challenges but also on (FLC) and household-level data (from the Financial Inclusion
the manner in which the current concerns relating to fiscal manage- Insights Survey), Ghosh in his paper finds that while the FLCs
ment, public sector ownership, external sector balance and coordina- influence the use of bank accounts as compared to their ac-
tion functions are resolved by the Government.
cess, the well-capitalised banks with lower problematic loans
In the second paper, Ashima Goyal probes into the dynamics are better placed to deliver financial inclusion through their
behind the sharp rise in interest rates on the Indian government FLCs. Interestingly, notwithstanding the growing importance
securities (G-secs) during 2017–18, which was seemingly of the electronic channels, traditional channels still remain
unrelated to the fundamentals. Goyal notes that the standard relevant in impacting financial inclusion, positively.
variables like domestic growth, inflationary expectations or fiscal
Partha Ray (pray@iimcal.ac.in) is with the Economics Group, Indian
deficit, as well as the movements of the United States’ federal
Institute of Management Calcutta, Kolkata.
funds rates fail to explain this phenomenon. Relating to the
importance of liquidity and its composition for G-Sec yields, her
empirical results indicate the large impact of open market opera- This special issue has been put together by Partha Ray who
tion (OMO) of the RBI on 10-year G-Secs. In particular, her results oversaw the commissioning, refereeing and the final selection of
the articles. EPW is grateful to him for being the Advisory Editor
point towards the phenomenon that, “If large foreign debt inflows
for this issue. —Ed.
reduce OMOs, as sterilization takes place, they can raise yields.”
Economic & Political Weekly EPW MARCH 30, 2019 vol lIV no 13 33

34 MARCH 30, 2019 vol lIV no 13 EPW Economic & Political Weekly