India’s wider stand
The global recovery has fueled inflation around the world. This has led to mounting speculation as to whether the industrialized nations will reverse their monetary policy stance. Over the last decade, central banks in the United States, the European Union and Japan, among others, have embarked on ultra-low interest rates and have been rapidly expanding their balance sheets, especially after the pandemic, to inject liquidity and stimulate their economies. . . Consequently, global liquidity is at an all-time high (Chart 1). Low bond yields have forced global investors to turn to emerging countries with stronger economic prospects, including India.
The country’s outlook is positive, but policymakers must do more to withstand the risks of global financial systems and remain vigilant.
In the summer of 2013, emerging market markets took a roller coaster ride as investors around the world began selling risky assets from emerging markets, including India. What led to a “sky is falling” reaction among investors was an indication from the United States Federal Reserve (Fed) of a possible reduction in its monetary policy stimulus.
At a time when pandemic uncertainties persist, it will come as no surprise if investors get ahead of themselves, confidently anticipating that reducing bond purchase programs will result in higher borrowing costs, which will affect the asset valuations. One possible consequence could be that investors around the world are starting to return money to the United States by selling risky assets, mainly from emerging markets, in favor of American securities and cash. Emerging markets that have become accustomed to unprecedented short-term capital flows from abroad will need to be prepared for the potential impact of liquidity shortages and uncertainties once central banks decide to turn off the liquidity tap. However, the impact among emerging nations will differ based on the strength of their underlying economic fundamentals. We analyze movements in key economic parameters of emerging economies during the most vulnerable periods in 2020, when the world was reeling from the pandemic.
Despite the fact that high demand for US Treasuries lowered bond rates at the peak of the crisis in 2020, only a few economies witnessed a sharp widening of the interest rate differential relative to the rate. 10-year benchmark for the United States, suggesting increased risks. Associated with sovereign asset holdings of those few nations (figure 3a). As a result, not all economies experienced a rapid sovereign liquidation.3 India was the only nation whose yield differential did not deteriorate after February 2020. India is also the only nation that has experienced a decline in its 10-year sovereign yield. Since January 2020, despite the uncertainties related to the pandemic (Figure 3b). The performance trajectory suggests that the risks associated with sovereign lending have decreased and India’s credit quality has improved despite the deep economic recession and uncertainties. This may be the result of relatively stronger economic prospects and a stable national currency, all of which have improved investor confidence in India.