The US Federal Reserve was last night urged by one of the most powerful emerging economies to remain “sensitive” to the impact that the timing and pace of its eventual hikes in interest rates will have on the developing world.
In an exclusive interview with Emerging Markets, Reserve Bank of India governor Raghuram Rajan said the US central bank needed to avoid potentially damaging external consequences. He drew attention to potential turmoil in foreign exchange markets as what he called “extreme monetary policies” were unwound.
However, the impact of his concern was diluted by an upbeat statement by the Mexican finance minister who said that the benefits of a resurgent US economy would offset the pain of rising borrowing costs.
Asked about the likely impact as the US Fed moved toward tightening, Rajan said: “I think the truth is that nobody knows. We have had time to prepare since the first round of turbulence. There has been some pain in emerging markets. But I think many of us are much better prepared for turbulence now than we were [earlier].
“My concern about what happened in January [when tapering began] was not because we in India were affected — in fact we were minimally affected compared to other emerging markets — but I worried that in an integrated world where global capital flows are strong and powerful forces, each country has to look outward at the effects of its policies.
“There has to be some sensitivity to the conditions under which those policies are being determined. What I was calling for was a recognition of the need to be sensitive and I think that this has sparked some debate.”
Asked whether the Fed was sufficiently aware of the external effects of its policies, Rajan said Fed chair Janet Yellen and vice-chair Stanley Fischer, were “very internationally minded economists. It’s hard to think of anyone who has more international experience than Stan Fischer, and Janet Yellen has been extremely interested and sensitive as to the issues faced not just by other countries but even within her own country on the less than well to do.
“I think the sensitivity is there but the question is how much you can do even when you are sensitive. I think it is important to raise these issues and over time to debate what might be a better solution than the one we have now.”
Rajan emphasised that the world was in uncharted territory so far as being able to predict the impact and spillover effects of monetary policy shifts. “We are in a situation where nobody has had experience with this amount of central bank intervention in financial markets,” he said.
“One of the things I have been cautioning about is if you change or even distort prices on the way into these programmes there’s going to be an equal price movement when you move out. We have to worry about those consequences also.
“Some would say that some of the most significant effects of extreme monetary policies may be on exchange rates and if you are exiting you see a reversal of what happened when you entered, especially if others are still in very accommodative mode. These have effects on growth and how you think about policy going forward.”
POSITIVE MEXICO
In a separate interview, the Mexican secretary of finance Luis Videgaray told Emerging Markets that his country was well positioned to benefit from the US recovery while mitigating the impact of the forthcoming rate hikes.
“The fundamental driver of that decision when it happens is a positive one for Mexico. I will always take US growth as a positive thing even if it comes with a rate hike,” he said.
He argued that Mexico has a commitment to preserve its strong fundamentals. Those include a sound monetary policy, fiscal responsibility, a well capitalised and well regulated banking system.
“We have set a combination between policy tools and strong fundamentals that will allow us to better face increased volatility, which will be felt,” he said.