Economic Roundup, December 14, 2018

Economic Environment

  • New Reserve Bank of India (RBI) Governor

  • Elections in 5 states

  • US-China trade tensions and global growth

How are the Indian and global economic environments affecting the financial markets?

  • The government has quickly appointed Shaktikanta Das as Urjit Patel’s replacement after his sudden resignation. Signals of business continuity at the RBI from the new governor have prevented market anxiety. Given that annual inflation in November is well below RBI inflation target and October industrial production has surged, RBI policy is expected to be status quo on interest rates.

  • In the run up to the general election in 2019, 5 states have gone to the polls on December 07. The results announced on December 11, despite the loss in all 5 states of the ruling BJP, have not led to any unusual volatility in the markets which have, in fact, welcomed the winners’ promises to deal with youth unemployment and farmer sentiments as a sign of support for the economy.

  • The primary concern for the markets has been uncertainty about US-China trade which they have linked to the slowing global growth. The global markets, with India taking cues from their reaction to developments in the US-China trade situation, want a resolution to the trade tensions to alleviate their concern about any possible global economic slowdown. However, it is unlikely to be resolved within the next 90 days unless China meets US demands on bilateral trade. The global markets, as a result, will remain somewhat volatile through the end of the first quarter of 2019.

    What to expect from the markets next week?

Indian financial markets will continue to takes cues from global markets on global growth though they could breathe a sigh of relief because of expected slower pace of Fed rate increases due to probable slowing of US growth at around the Fed’s inflation target and the RBI status quo, despite a new governor, but with a watchful eye on Indian economic growth outlook also at around the RBI’s inflation target.

Economic Roundup, December 07, 2018

Economic Environment

  • Reserve Bank of India (RBI) monetary policy

  • US-China trade uncertainty

  • The Organization of the Petroleum Exporting Countries (OPEC) and Russia

  • Global growth

How are the Indian and global economic environments affecting the financial markets?

  • The RBI left interest rates unchanged given the slowdown of the Indian economy in the July-September quarter and lower than target inflation while maintaining its stance of ‘calibrated tightening’. This decision by the RBI was widely expected though the markets also expected a change in the RBI’s stance to ‘neutral’. The reaction of the Indian equity markets was bearish because of the RBI signal that it is not bullish on the economy. Some deterioration in the macro situation was also reported by the government with the Indian fiscal deficit exceeding the fiscal year target with the year still one quarter away from being completed. It must be noted here that the trade deficit is also increasing and is highly sensitive to the oil price. The twin fiscal and trade deficits do not bode well for the strength of the rupee. If inflation holds at or below target, we expect the RBI to return to ‘neutral’ stance with a bias of lowering interest rates next year depending on economic growth to boost the economy though we also expect the RBI not to act on lowering interest rates because of inflation concerns until Indian gross domestic product (GDP) growth rate falls to about 6.5% in 2019. Therefore, given the forecast of 7.2% for GDP growth rate in 2019, we expect, on balance, the RBI to maintain status quo on interest rates through the end of the fiscal year 2018-2019.

  • Indian equity market reaction to US-China trade uncertainty was mixed despite a sharp fall in US markets. It is still unclear how the US-China trade dispute would be resolved while noting that India, in fact, stands to benefit from both US and China should their trade dispute continue.

  • OPEC and Russia agreed on Friday to together cut oil production by 1.2 million barrels-per-day for the next 6 months to prop up the oil price. It is unclear to what extent they would succeed in doing so given rising US production which will only stand to benefit from propped up oil prices. This, however, is not good news for India because higher oil prices will only cause the trade deficit to rise and pressure the rupee.

  • Concerns about global growth have caused all the major advanced and emerging equity markets to fall. The International Monetary Fund (IMF) has clarified that it only expects global growth to slowdown without the risk of a recession.

    What to expect from the markets next week?

Indian financial markets will continue to takes cues from global markets on global growth though they could breathe a sigh of relief because of expected slower pace of Fed rate increases because of probable slowing of US growth at around the Fed’s inflation target and the RBI status quo but with concern about Indian economic growth outlook also at around the RBI’s inflation target.

Special Note – RBI Policy, October 05, 2018

Reserve Bank of India (RBI) monetary policy outlook

The RBI will release its Fourth Bi-Monthly Monetary Policy Statement for the year 2018-19 on October 5th. It is being widely expected that the RBI will increase the repo rate by 25 basis points given the falling rupee and the rising price of oil. The mandate of the RBI is inflation stabilization – as measured by the consumer price index – at its medium-term target of 4%. Annual inflation in August 2018 was 3.69%, below RBI’s target. The balance between on the one hand the continued strength of the Indian economy and on the other macro and banking and financial services sector concerns will determine the interest rate outlook. The looming US sanctions on Iran in November and the reluctance of Russia and the Organization of the Petroleum Exporting Countries (OPEC) to raise output could tighten global oil supplies putting further upward pressure on the oil price which is expected to be around USD 90/barrel. This has the potential to put brakes on India’s gross domestic product (GDP) growth rate due to higher energy costs, raise inflation if higher energy costs persist, and raise the current account deficit (CAD) because of at least status quo imports assuming, despite the cheaper rupee, exports will be unable to offset the higher cost of imports. Higher import prices will also pass through into inflation. Slower growth could reduce tax revenues thereby raising the budget deficit. Further, on the budget deficit front, budget numbers for 2018-19 were calculated on the basis of oil at USD 65/barrel and rupee at around 66 to the dollar. Those calculations no longer hold. Oil subsidies, budgeted at just under INR 25,000 crore for 2018-19, may end up 40% higher or more in actual expenditure. The rising dollar because of strong US economic growth is depreciating the rupee which is compounded by selling rupee to buy dollars to pay for imports. These factors and rising US interest rates are driving away foreign institutional investors (FIIs) who are, on net, taking dollars out of India, putting pressure on India’s foreign exchange reserves. At the present time, however, India’s macro situation, though experiencing negative pressures, continues to be stable. Higher interest rates in India is one way to attract FIIs but RBI may not be inclined to sap liquidity from the market by raising the repo rate amid talk already about lowering the reserve requirement and RBI bond purchases from banks to ensure that the markets are sufficiently liquid to prevent panic selling. As the non-banking financial companies’ (NBFC) regulator it will also need to address what steps it may take, if any, about possible defaults by companies in that space. A contagion involving NBFCs could drag the equity markets and the economy down with it. The RBI, while intervening in the foreign exchage market as necessary by selling dollars and buying the rupee could, however, hold off on raising interest rates for this meeting but with an eye on the affect of oil price and the macro situation on inflation outlook for future meetings rather than using higher interest rates to put a floor under the falling rupee.

Monetary Policy of India and Economic Development

India, since liberalization in 1991, has depended on foreign institutional investment (FII) and foreign direct investment (FDI) to bulk up its foreign exchange reserves, even as it built its services exports sector that depends on outsourcing primarily from the United States and Europe. Unlike China, India paid little attention to the development of domestic infrastructure and manufacturing, remaining as a primarily agricultural economy. The challenges, as a result, India continues to face are hightened poverty, among the highest in the world, and inability to create jobs commensurately to the number of young people, about a million, entering the job market every month.

On the path toward becoming the most populous country in the world by 2050, India, being a democratic polity and a mixed economy founded on Fabian socialist principles, must position itself to reap the demographic dividend in the upcoming three decades. If leveraged well, India, with its large English-speaking population, can create the needed jobs by aiming to become a global center for services similar to but beyond Singapore and by transforming its infrastructure with smart cities, “Make in India” and “Digital India” programs. This would also have a dramatic effect on poverty reduction which has not happened as one would expect after 1991. The government programs are there but the question remains about how they can be funded at the scale that is needed for India’s economic transformation.

Monetary policy of China, says Li Yunqi, a Chinese research scholar associated with the People’s Bank of China (PBOC), has always been about economic development. Industrialization, in particular infrastructure related, has been the focus of PBOC, together with, of course, expanding the exports sector. Both infrastructure and exports, which contributed to significant and sustained increase in real investment have propelled China to be the second largest economy in the world when measured by nominal gross domestic product (GDP) and the largest in purchasing power parity (PPP) terms.

Blessed with fertile land and fresh water perennial rivers both in its north and south, India is an economy waiting to happen on the world stage powered by all three of the economic sectors: agriculture, industry and services. Road, rail, electricity and water are the primary infrastructure areas that are ripe for transformation. With urban areas growing, the government’s smart cities initiative should be able to accommodate the migration from rural to urban areas without over-burdening the existing cities by expanding or building new cities along major highway or railway corridors.

China printed money for investment in the expanding infrastructure and exports sectors of its economy, thus raising the potential growth rate which also thereby managed inflation despite occasional, short bouts with high inflation. This created millions of jobs and dramatically reduced poverty in the three decades since 1978 when China began its market socialist reforms. Though China, as Li Yunqi points out in his 1991 Asian Survey article “Changes in China’s Monetary Policy”, has to deal with the paradoxes of a burgeoning market economy and a socialist state that intervenes in it, and also with finding growth drivers as infrastructure and exports wane, its management of monetary policy holds important lessons for its neighbor to the south, India.

The Reserve Bank of India (RBI) should expand money supply for targeted funding of economic transformation initiatives. Money supply targeted to investment and growth initiatives only raises the potential growth rate but does not cause inflation. India is not yet an economy whose monetary policy can behave as if it is a developed economy.

Will The Expected Faster Fed Rate Increases Drive the U.S. Economy into a Recession?

US monetary policy appears to be transitioning from “very gradual” to “gradual” normalization. After raising the Federal Funds Rate (FFR) twice with a gap of one year between the two increases – one in December 2015 and another in December 2016 – the Fed appears to be comfortable to raise the FFR a bit faster by possibly again telegraphing about 3 increases in 2017 after doing the same in 2016. In 2016 the Fed did not follow up on its signal of 3 increases and it may not also in 2017. Annual growth in 2016 is at 1.6% which is about 1% less than annual growth in 2015 and annual growth forecasts based on the Quarter 1, 2017 numbers indicate that growth in 2017 could be similar to 2016.

Discussion about U.S. growth data, however, is missing from the current debate about whether the Fed will raise the FFR by 25 basis points to between 0.75 and 1 percent on March 15. The markets have priced-in the rate increase looking at the recent pronouncements by senior Fed officials, inflation, and labor market data, and the rate increase seems to be a certainty with the markets wholly concurring with the Fed that the rates should go up. In fact, if the Fed delivers a surprise on March 15 by not raising the FFR, financial markets could fall fearing that the Fed signaled a lack of confidence in the US economy.

Fed’s confidence in the economy and its view that the economic environment in the rest of the world is also improving – diminishing foreign risks to the US economy and also lower risks to global economic growth – should, the Fed appears to expect, keep US growth on a solid footing. Such a rhetorical expectation appears to be grounded in data because US growth in the most recent two quarters – Q4 2016 and Q1 2017 – points to an annual growth rate in both 2016 and 2017 that is close to the potential growth rate of between 1.4% and 1.7% according to estimates by the Congressional Budget Office (CBO) suggesting that there are no risks yet to inflation from growth unless it is above 1.7%.

An important point of discussion for the rate setting Federal Open Market Committee (FOMC) of the Federal Reserve would be the natural or neutral rate of money supply: is the FFR below, at or above the natural rate of interest? If the FFR is neutral, then inflation must be stable and growth must be at the trend rate. This may already be the case. Growth is at potential and inflation – by the Fed’s preferred measure of rise in core personal consumption expenditures (PCE) – should be hovering around 2%. With core PCE currently around 1.7% there is no impending risk to the Fed’s inflation target.

Considering that annual growth has fallen by 1% in 2016 when compared to 2015, and 2017 growth rate could be the same as that of 2016, the behavior of growth in 2016 and 2017 shows counter-intuitively that, given the economic structure, the FFR is perhaps already at the neutral rate and that any higher FFR will suppress growth. It may fall to fiscal policy to identify new growth drivers to push up both the potential growth rate and the natural rate of interest. The financial markets are thus, quite appropriately, reacting positively to promises by the new US administration of fiscal expansion.

A commitment by the Fed to accelerate the pace of interest rate increases should also take into consideration growth data and not merely inflation and labor market statistics if the Fed is to avert the risk of driving the economy into a recession with faster rate increases.

Monetary Policy Outlook for India

The Reserve Bank of India (RBI) sprang another surprise on February 8, 2017. It left the key repo rate unchanged and, more importantly, changed the monetary policy stance to neutral from accommodative. The RBI has done two things: one, it surprised the markets and two, it made policy hawkish by keeping the rate unchanged and by changing the monetary policy stance to neutral from accommodative. Both the surprise and the change in policy stance constitute policy making, unless it is construed by the markets that surprises imply a central bank that is not as transparent as expected in its communication, thereby, confounding the markets.

The following key reasons were given by the RBI for its decision at the February meeting of the monetary policy committee (MPC):

“The decision of the MPC is consistent with a neutral stance of monetary policy in consonance with the objective of achieving consumer price index (CPI) inflation at 5 per cent by Q4 of 2016-17 and the medium-term target of 4 per cent within a band of +/- 2 per cent, while supporting growth.

Excluding food and fuel, inflation has been unyielding at 4.9 per cent since September. While some part of this inertial behavior is attributable to the turnaround in international crude prices since October – which fed into prices of petrol and diesel embedded in transport and communication – a broad-based stickiness is discernible in inflation, particularly in housing, health, education, personal care and effects (excluding gold and silver) as well as miscellaneous goods and services consumed by households.

GVA growth for 2016-17 is projected at 6.9 per cent with risks evenly balanced around it. Growth is expected to recover sharply in 2017-18 on account of several factors. First, discretionary consumer demand held back by demonetization is expected to bounce back beginning in the closing months of 2016-17. Second, economic activity in cash-intensive sectors such as retail trade, hotels and restaurants, and transportation, as well as in the unorganised sector, is expected to be rapidly restored. Third, demonetization-induced ease in bank funding conditions has led to a sharp improvement in transmission of past policy rate reductions into marginal cost-based lending rates (MCLRs), and in turn, to lending rates for healthy borrowers, which should spur a pick-up in both consumption and investment demand. Fourth, the emphasis in the Union Budget for 2017-18 on stepping up capital expenditure, and boosting the rural economy and affordable housing should contribute to growth. Accordingly, GVA growth for 2017-18 is projected at 7.4 per cent, with risks evenly balanced.

The Committee remains committed to bringing headline inflation closer to 4.0 per cent on a durable basis and in a calibrated manner. This requires further significant decline in inflation expectations, especially since the services component of inflation that is sensitive to wage movements has been sticky. The committee decided to change the stance from accommodative to neutral while keeping the policy rate on hold to assess how the transitory effects of demonetization on inflation and the output gap play out.”

RBI interest rate decision and the neutral monetary policy stance, however, could have also been based on neutral or natural rate of interest consideration, where the natural rate is the rate at which real gross domestic product (GDP) is growing at its trend rate, and inflation is stable, with the shock to growth and inflation being seen as transient and one-off effects arising because of demonetization as many analysts and the RBI are interpreting. The RBI is counting on growth to strongly pickup in 2017-18 without having to lower rates. It is focused on bringing down inflation to 4%.

Fiscal policy from the 2017-18 budget, albeit pro-growth, tends to act slower than monetary policy in raising aggregate demand. Therefore, even after the effects of demonetization fade away, in the absence of preemptive monetary stimulus, growth could continue to slow contrary to RBI’s expectations. If RBI decides to tolerate slower growth to keep inflation durably around 4%, especially given the global reflation, it may find itself in the unenviable position of not being able to lower the repo rate even if growth slows down to say 6%. Future RBI decisions will depend on how flexible the monetary policy committee (MPC) is about keeping inflation within the inflation targeting range of 4% +/- 2% rather than focusing on inflation durably being closer to the 4% target.

Expectation of RBI Decision at the Sixth Bi-monthly Policy Meeting on February 8, 2017

Summary

RBI could cut the repo rate – the rate at which the central bank of a country lends money to commercial banks in the event of any shortfall of funds – by 25 basis points to 6.00% at its Sixth Bi-monthly Policy meeting on February 8, 2017 because it is generally agreed that the Indian economy has slowed after demonetization and, therefore, growth will need support from the central bank, especially given that inflation is in check, for growth not to slow further. Also, the 2017-18 budget, by committing to a budget deficit target, gives the RBI fiscal space to lower rates.

Demonetization

Growth is forecast to be slowing by 1% over previous year for fiscal 2016-17. Slowing growth puts downward pressure on inflation. Transient. Growth is forecast to pick up beginning Q1 2017-18 at current interest rates because of a rise in consumption once cash starts flowing in the system again but that is not certain to cover up the lost 1% growth rate in the GDP because of greater curbs on unaccounted for cash in the 2017-18 budget such as banning cash payments over INR 300,000. This could continue to put a temporary damper on consumption until the economy becomes used to traceable transactions. On the other hand, given the higher marginal propensity to consume of low income earners, those earning less than INR 500,000 per year could spend more because of a lower tax burden in 2017-18 and, therefore, higher disposable income.

Inflationary pressures on the horizon for 2017-18

Pro-growth budget, implementation of the GST bill, rising oil prices, implementation of government employees housing allowance, stronger dollar, global reflation, and the challenging 4 per cent CPI target for the medium term.

Decision

In the quarter ending December 2016, net sales of sample companies across sectors have increased 4.3% year-on-year, the slowest in 5 quarters and real investment in the economy is secularly down. If RBI is targeting 7-8% GDP growth rate to create jobs (to address the issue of jobless growth) by raising corporate credit and investment in 2017-18, to provide support to growth it has room to cut the repo rate by up to 100 basis points in increments of 25 basis points given that inflation, on balance, appears to be under control. NPAs in state banks should see some relief because of government infusion of funds in the 2017-18 budget, though not as much as expected. State lenders could, therefore, lower their lending rates sooner for effective monetary transmission to take place.

RBI could cut the repo rate by 25 basis points to 6.00% on February 8, 2017.

Will There Be a Banking Crisis in India?

bankingcrisis

Indian banks are creaking with non-performing assets (NPAs) which are typically defined as loans made by a financial institution on which interest or principal payment is past overdue for more than 90 days. This problem has gotten progressively worse in the past 5 years in most public sector banks (PSBs) in India, where, by one estimate, a total of at least INR 3.6 trillion needs to be infused into the PSBs to clean up their balance sheets, with the gross NPAs constituting, on average, 10% of the total assets of a PSB.

While private sector banks carry the risk of failing if they do not conduct their business soundly, PSBs carry the moral hazard of government guarantee against failure. In this sense, PSBs can never fail because of the guarantee that the government will provide the required cash infusion to prevent the PSBs from failing, with the tax payer bearing the losses due to the NPAs. The issue then becomes one of resolving this moral hazard to avert market failure.

There are two approaches to the problem of the resolution of NPAs on the balance sheets of PSBs: one, to prevent the NPAs and if not preventable, two, once the NPAs reach worrisome levels because they could not be prevented, the PSBs can be rescued with tax payer funds on the condition that the rescued funds would be paid back to the government by the financial institutions after they return to normal health or from the management of the NPAs by the government.

Preventing NPAs requires thorough due diligence of the borrower on the part of PSBs when lending to ensure that the moral hazard presented by the PSBs is not being taken advantage of by the borrower who could take out a loan with the intent of defaulting on it from the outset which is difficult to prove. PSB bankers in India often face pressure from the business lobby and politicians to lend despite due diligence concerns. The government must set up checks and balances so that loan quality is not compromised by nepotism and corruption.

Ex post accumulation of NPAs, which poses systemic threat to the financial system as is the situation now, despite arguments that the PSBs are the best judges of their lending and that, therefore, they should resolve their own bad loans, a “bad bank” as done by Sweden in 1991-’92 should be established by the government and the NPAs must be transferred to the bad bank at a discounted price. The bad bank must then resolve the NPAs either by (a) liquidating the collateral assets; or (b) strategically restructuring the debt by converting their loans to equity and taking a stake in the firm to oversee its management (along the lines of the private equity model); or (c) restructuring the loan terms so that the borrower can service the loan. The proceeds from the resolution of NPAs will all flow to the government and the tax payer expense of resolving the NPAs would then at least be neutralized.

Most importantly, because the institutions being bailed out are banks which come under the regulatory authority of the Reserve Bank of India (RBI), the RBI can infuse the required funds into the PSBs directly rather than the government by increasing the money supply and set up the bad bank.

Sustainable credit growth is an important factor in the growth of any free market economy. Unsustainable credit in countries such as Italy, China and India could, in the best case, hamper economic growth and, in the worst case, result in a systemic crisis such as bank failure spreading across many banks in the economy which have a high percentage of NPAs. If the problem of the growing menace of NPAs in India’s PSBs is not resolved in a timely manner, both PSB asset growth and economic growth in India could be adversely affected as PSBs provide credit to businesses, small and large, which is the lifeblood of the Indian economy.

Why Both Growth and Inflation Target May be Tricky to Achieve for India

inflation-growth

The inflation target of India, instituted by the Reserve Bank of India (RBI) and the Indian government, is 4% consumer price index (CPI) change within a band of 2 – 6%. For the last quarter of the fiscal year 2016-2017 – the quarter from January 2017 – March 2017, the RBI is expecting to contain inflation to 5% and in the medium term maintain inflation in the range of 2-6%.

India’s economy has been growing strongly and lower commodity prices have helped India achieve growth since 2014 while keeping inflation contained because of slow global economic growth. But this may be changing now. The expectation of pro-growth economic policies by the US president-elect Donald Trump has, on one hand, buoyed the financial markets in the United States shifting investors interest from the safe haven of bonds to stocks raising bond yields, and on the other hand, because American unemployment is low and near to full employment, has raised the prospect of faster rise in inflation ending the prolonged period of low inflation. This could become a contagion globally, igniting growth around the world. The world economy is showing signs of reflating. Industrial activity across the United States, Europe and China appears to be on an upward trend, and is pushing up commodity prices.

This change in global economic conditions has not gone unnoticed by the RBI. In its Fifth Bi-monthly Monetary Policy Statement, 2016-17 Resolution of the Monetary Policy Committee (MPC), the RBI has stated that:

“Global growth picked up modestly in the second half of 2016, after weakening in the first half. Activity in advanced economies (AEs) improved hesitantly, led by a rebound in the US. In the emerging market economies (EMEs), growth has moderated, but policy stimulus in China and some easing of stress in the larger commodity exporters shored up momentum. World trade is beginning to emerge out of a trough that bottomed out in July-August and shows signs of stabilising. Inflation has ticked up in some AEs, though well below target, and is easing in several EMEs. Expectations of reflationary fiscal policies in the US, Japan and China, and the waning of downward pressures on EMEs in recession are tempered by still-prevalent political risks in the euro area and the UK, emerging geo-political risks and the spectre of financial market volatility.

International financial markets were strongly impacted by the result of the US presidential election and incoming data that raised the probability of the Federal Reserve tightening monetary policy. As bouts of volatility fuelled a risk-off surge into US equities and out of fixed income markets, a risk-on stampede pulled out capital flows from EMEs, plunging their currencies and equity markets to recent lows even as bond yields hardened in tandem with US yields. The surge of the US dollar from late October intensified after the election results and triggered sizable depreciations in currencies around the world. Commodity prices firmed up across the board from mid-November on an improvement in the outlook for demand following the US election results, barring gold which lost its safe haven glitter to the ascendant US dollar. Crude prices have firmed after the OPEC’s decision to cut output.”

The RBI summed up its statement with an assessment of inflation thus:

“Turning to inflation, food prices other than vegetables are exhibiting sustained firmness and a pick-up in momentum. Another disconcerting feature of recent developments is the downward inflexibility in inflation excluding food and fuel which could set a resistance level for future downward movements in the headline. Moreover, volatility in crude prices and the surge in financial market turbulence could put the inflation target for Q4 of 2016-17 at some risk.”

Though good for Indian exports, the depreciation of the rupee against the US dollar could, in fact, put upward pressure on inflation in India because imports become expensive. This, when combined with strong economic growth, can raise inflation closer to the RBI’s upper limit of 6% as the Indian central bank recognizes.

Though monetary policy transmission when lending rates are lowered is being hampered by factors such as non-performing assets (NPAs) of commercial banks and the small size of India’s financial markets, when lending rates tick up the transmission is faster. To keep inflation within target, therefore, India may have to settle for slower growth by raising interest rates at some point.

The Goldilocks period of sustained strong growth in an environment of low global inflation may be coming to an end for India.

Could the Recovery After the Great Recession Have Been Quicker?

quickrecovery

The party of nearly uninterrupted growth since the Reagan economic recovery of 1983 with the exception of two small recessions in 1990-1991 and 2002-2003 in the United States ended with a thud, culminating in the financial crisis of 2007-2008 and the Great Recession of 2007-2009. Unemployment had risen to double digits and inflation fell raising fears of deflation as in Japan. Therefore, interest rates were cut deeply by the Federal Reserve to the zero bound and money supply was further expanded through bond purchases and purchases of mortage-backed securities (MBSs) in three episodes of quantitative easing. Yet the economic recovery since 2009 has been sluggish. All that money supply perhaps achieved was to put a floor under inflation but not accelerate real investment through the credit channel of monetary policy transmission.

It has taken 7 years to nearly halve the unemployment rate with little to say about the quality of employment created. Rise in wages has been slow and people have not been able to find employment and incomes comparable to what they have been before the Great recession. Economists have cited technology and trade as two reasons for the plight of the average American as gains from both technical change and international trade have gone disproportionately to the top 10%, and more so to the top 1%. Innovation in all sectors, including in finance, was encouraged with little regulation. Technical change and trade have become dogmas whose critique was forbidden. As a result, populism and protectionism are now on the rise around the world as can be seen from Brexit in the United Kingdom and the election of Donald Trump for president in the United States.

The blame for the rising populism and protectionism must squarely be laid on the lack of substantive discussion among policymakers about how to safeguard jobs amidst technical change in manufacturing – a key employment sector of the economy – and how global trade must be structured for its benefits to be equitably distributed among the population. More importantly, under the grave threat of deflation after the onset of the Great Recession, monetary and fiscal policies have not been commensurately radical in a timely manner.

There was much deliberation whether to cut interest rates to zero during the initial period of the financial crisis, then it was followed by further deliberation whether quantitative easing should be adopted. Monetary easing occurred in an environment of fiscal tightening or austerity, a contradictory approach to macroeconomic policy making. While fiscal policy was constrained from acting through austerity measures, there has been no discussion on how monetary expansion can be conditioned on real investment rising to direct money to those sectors of the economy where it is most needed.

The extremely radical approach of the central banks in developed countries directly funding government budgets with the central banks forgiving all new government debt so that fiscal space can be increased to raise real investment to create jobs (“helicopter money”) has largely been left to opinion articles by former central bank policymakers and academics when the required global infrastructure spending alone is estimated to be USD 57 trillion by 2030. All of this has needlessly prolonged the economic recovery: money is being hoarded at central banks in the form of excess reserves and in cash by corporations instead of being invested in the real sector.

Predicating economic recovery on money from central banks trickling down into the economy and into sectors decided solely by market forces has made monetary policy less activist than it should have been for the recovery to be quicker. It is still not too late.