Quantitative easing - An Historical Perspective

Earlier I had already provided definition of Quantitative Easing (QE) (see October 11, 2010 post). Here I would like to share some historical background of Quantitative Easing. When we look wikipedia about QE it describes that "The original Japanese expression for "quantitative easing" , was used for the first time by a Central Bank in the Bank of Japan’s publications. The Bank of Japan has claimed that the central bank adopted a policy with this name on 19 March 2001."  I became puzzled to see that  how can a concept like QE can be a new thing.

After some research on the topic, found the Truth the quantitative easing is not a new concept or evolution of any concept. CPS (Centre for Policy Studies, UK), has published a Paper on QE by George Trefgarne.  In that paper George Trefgarne says that QE  "QE is not a new idea. It was originally pioneered in this country by a Tory administration over 200 years ago, which in response to a banking crisis, flooded the system with funds, by printing money. QE is merely a fancy expression to describe the modern, technical aspects of that process."

I am also puzzled to see the wikipedia definition of QE as a recent one, despite the fact that QE is also used during Great Depression of 1930's. Richard G. Anderson in his paper (published in Monetary Trends) said that  "During 1932, with congressional support, the Fed purchased approximately $1 billion in Treasury securities (half, however, was offset by a decrease in Treasury bills discounted at the Reserve Banks). At the end of 1932, short-term market rates hovered at 50 basis points or less. Quantitative easing continued during 1933-36. "

You can give a new term for a concept, but, concept like QE cannot be new at all. These are some historical Fact which I came to know on the road of unearthing QE.

BANCOR - Is it a New Global Currency?

 The people who follows the IMF knows that It gets what it usually wants. It could be the same in case of New Global Currency knowns as "Bancor". In April,13, 2010 a paper entitled  “Reserve Accumulation and International Monetary Stability” by the Strategy, Policy and Review Department of the IMF recommends that the world adopt a global currency called the "Bancor" and that a global central bank be established to administer that currency. 

Many people thought that it is some hype and rumour; which is not True. The Proposal is already submitted and now the base work for implementation is going on.

People may wonder from where this term Bancor had evolved?

If people who are following the IMF website and people who have knowledge of "Bretton Wood Agreements" they would know from where this term have been evolved. Anyhow, here is a brief history of the term "Bancor".

The term evolved way back in 1940's (I think exactly between 1942-44) when John Maynard Keynes made a proposal to have a world reserve currency - where he was conceptualising the term called "Bancor"- administered by a central bank vested with the possibility of creating money and with the authority to take actions on a much larger scale.

The Paper gives answer for the question Why bancor? Few excerpts as follows: 

A global currency, bancor, issued by a global central bank would be designed as a stable store of value that is not tied exclusively to the conditions of any particular economy.

It is believed that Bancor would play as a Nominal anchor. As a stable store of value, bancor could serve as a global nominal anchor. The variability of traded goods prices that is currently related to exchange rate volatility would be reduced.

Once liquid markets for bancor-denominated instruments exist and bancor-denominated transactions are at a par with or exceed transactions in other currencies (i.e., in a bancor-based system), bancor-denominated debt of the sovereign with the highest credit rating could serve as the global risk-free asset, off of which all risky assets are priced.

The global central bank could serve as a lender of last resort, providing needed systemic liquidity in the event of adverse shocks and more automatically than at present. If bancor were to circulate as a common currency, then current account imbalances among the adopting economies would reflect structural rather than monetary considerations.

Perception:

IMF is trying to shift for common global currency. But, how far this help the world from any crisis is really a big question. The Bancor has its own advantage as well as disadvantage. When it comes to implementation and practicality then I see only more crisis rather than stablility. I still need to go through full paper before I express my views on this "Bancor" (not on keynes term). Let us wait and see how this Bancor as a global currency evolves and comes to implementation.

CSO Advance Estimate for 2010-11

The Central Statistics Office (CSO), Ministry of Statistics and Programme Implementation has released the advance estimates of national income at constant (2004-05) and current prices, for the financial year 2010-11, yesterday (i.e. 07.02.2010).

It said that the growth in GDP during 2010-11 is estimated at 8.6 per cent as compared to the growth rate of 8.0 per cent in 2009-10. The growth rate is estimated at 8.6 per cent for 2010-11 is due to growth rates of over 8.0 per cent in the manufacturing’, ‘construction’, 'trade, hotels, transport and communication', 'financing, insurance, real estate and business services'. 

It also declared that Agriculture sector registered a growth rate of 5.4 percent. The ‘agriculture, forestry and fishing’ sector is likely to show a growth of 5.4 per cent in its GDP during 2010-11, as against the previous year’s growth rate of 0.4 per cent.

The growth in GDP for mining and quarrying and manufacturing sectors during 2010-11 is expected to be 6.2 and 8.8 percent respectively over previous year. 

The estimated growth for 2010-11 in service sector is placed at 11 per cent.

 I dont have any doubt on the growth rate is expected at 8.6% which is inline with RBI estimates of 8.5% . 

 
By seeing the Estimates few queries arised in my mind. The Advanced Estimates says that Agriculture have registered 5.4 growth over last years 0.4%. Many Economist in India are concerned about food inflation which is rose to 17.05% for the week ended Jan 22, 2011. Few economist feel that there is Supply Demand gap in agriculture which is the cause of rising food prices. The 5.4% growth in agriculture rises the question how it failed to meet the demand?

It is estimated that Industry sector will post 6.2% growth against 8.8% last year; Is Industrial sector is affected due to Global Crisis?. Whereas Service sector will post 11% growth, which grew at 8.7% last year. If service sector can post 11% (which is always high in contribution to GDP for almost a decade) and Agriculture sector can post 5.4% then India can easily achieve 9% growth; but  I doubt the growth rate of Agriculture.  

Some where I heard that "Statistics can be made to prove anything - even the truth".

Third Quarter Review of Indian Economy

This morning (25.01.2011), the Reserve Bank of India (RBI) released its Third Quarter Review of Monetary Policy for 2010-11. In its Third Quarter Review the RBI has stated that "Inflation is clearly the dominant concern. Even as the rate itself remains unacceptably high, the reversal in the direction of inflation is striking."  Keeping in view to curtile raising inflation, it had increased the repo and reverse repo rates by 25 basis points (bps) each. Therefore the curremt repo rate stands at 6.5 per cent and the reverse repo rate at 5.5 per cent; whereas, it had retained the cash reserve ratio (CRR) at 6 per cent of net demand and time liabilities (NDTL) of banks.

With the increases announced today, since mid-March 2010, the Reserve Bank has cumulatively increased the repo rate by 175 bps and the reverse repo rate by 225 bps. Additionally, the CRR was increased by 100 bps. In addition to changes in the policy rates, it had made some decisions to manage the current liquidity situation. It had decided that the additional liquidity support to scheduled commercial banks under the Liquidity Adjustment Facility (LAF) to the extent of up to one per cent of their NDTL; and a daily second LAF up to April 8, 2011.

RBI has revised the baseline projection of Inflation (WPI) rate from 5.5% to 7% for March 2011-12. It also stated that there was a rapid credit growth without commensurate increase in deposits is not sustainable. It also expects that the Current Account Deficit for the whole year (2010-11) would be around 3.5% of the GDP, which is not sustainable.

(Source: RBI website)

Interestingly, Finance Minster of India said that, "There are inflationary pressures in India and the government will have to begin supply-side management to tackle food inflation" He also stated that "Central bank rate hike is in line with the government's thinking and policy." 

If we look at the policy, then we can understand one thing in general; that is Food Inflation is really a greater concern for both RBI and Finance Ministry. In my view, the RBI move of hiking the repo and reverse repo rate will not have much impact on Inflation. The Government has to find out the exact reason for rising food prices and should take necessary step to curtail it.

Now, there are few other worrying scenario like Credit Deposit ratio, Current Account Deficit which are rightly mentioned in the Third Quarter Review. Another greater concern is India's External Debt. The ratio of short-term to total external debt stood at 22.3 % at end-September 2010 against 20.0% at end-March 2010. The ratio of short-term external debt to foreign exchange reserves was 22.5 % at end-September 2010 as compared to 18.8 per cent at end-March 2010.

It is very early to say that the increase in Repo and Reverse Repo Rate will have impact on Inflation. Finance Minister rightly said that there should be supply-side management for controlling Inflation. But, we need to wait and watch how the current monetary policy will help to control Inflation and stabilise the growing credit.

Debt Ceiling: A Brief Note

Nowadays, we often hear the term “Debt Ceiling” in many newspapers when they try to describe about the Government policy. What is debt ceiling? A "debt ceiling" is the maximum amount of debt that a government can take. In simple term, there is a limit, where government freezes their debt.

Why there should be a Debt Limit? The Main purpose of the debt ceiling is to try to limit out-of-control spending of the Government. In other words, debt ceiling is required to encourage more thrift and to have economically sound fiscal management.


Debt Ceiling and India: After almost a two decade of large fiscal deficits, India has adopted a rules-based fiscal framework in 2003 called the Fiscal Responsibility and Budget Management Act (FRBMA), with the objective to ensure intergenerational equity in fiscal management and the fiscal sustainability necessary.


According to FRBM ACT 2003 there are 4 Annual targets:


1. By 31st March 2008, the Central government shall reduce revenue deficit by an amount equivalent of 0.5 per cent or more of the GDP at the end of each financial year, beginning with 2004-05.


2. The Central Government shall reduce the fiscal deficit by an amount equivalent of 0.3 per cent or more of the GDP at the end of each financial year, beginning with 2004-05, so that, the fiscal deficit is brought down to not more than 3% of GDP at the end of March 2008.


3. The Central Government shall not give guarantees aggregating to an amount exceeding 0.5 per cent of GDP in any financial year beginning with 2004-05.


4. The Central Government shall not assume additional liabilities (including external debt at current exchange rate) in excess of 9 % of GDP for the Financial Year 2004-05 and in each subsequent financial year, the limit 9% of GDP shall be reduced by at least 1 percentage point of GDP.

(Source: FRBM ACT, Ministry of Finance)


          India’s fiscal deficit for 2009-10 had increased to 6.6 per cent of the GDP due to Stimulus Package made by Government for recovery from Global Meltdown. The Government has projected that the fiscal deficit would come down to 5.5 per cent of GDP in 2010-11.

European Economy - An Overview

           Today while I was browsing over the net on European Economy; I found a document titled “European Economic Forecast”. This report gives us a detailed study about status of European economy and International Environment. I also browsed some other materials where I found some information on EU and Euro Economy. The GDP growth rate have been forecasted to 1.7% and 2% for 2011 and 2012 respectively within EU and 1.5% and 1.8% for 2011 and 2012 in Euro Area.

       

          Inflation is projected to average 2% in the EU this year and next, easing to around 1.75% in 2012. For the euro area, a rate of 1.75% is expected in both 2011 and 2012. In forecast a modest improvement is expected with employment growth of almost 0.50% and around 0.75% is in 2011 and 2012, respectively. The unemployment rate is projected to gradually fall, from some 9.50% this year to about 9% by 2012.

         It is expected that (EU as a whole) a deficit of slightly above 5% of GDP in 2011 and 1 percentage point in 2012 as the recovery gains ground.

Is Europe Following India's Footstep?

The term "Flagship" normally denotes a lead ship.  The term has originated from the custom of the commanding officer in Naval who have right to fly a distinguished flag. The term Flagship scheme means the schemes which drive the economy towards faster growth. India is the first country to have flagship schemes. In India, (whoever follows the budget will know that) we have 8 flagship schemes. They are 1. Sarva Shiksha Abhiyan (SSA) 2. Mid-Day Meal (MDM) 3. National Rural Health Mission (NRHM) 4. Integrated Child Development Scheme (ICDS) 5. National Rural Employment Guarantee Scheme (NREGS) 6. Jawaharlal Nehru National Urban Renewal Mission (JNNURM) 7. National Rural Drinking Water programme(NRDWP) 8. Total Sanitation Campaign (TSC).

Now, the Europe has announced an initiative called “Europe 2020 flagship initiative”. They have seven flagship initiatives and they are:

1. Innovation Union: to improve framework conditions and access to finance for research and innovation so as to ensure that innovative ideas can be turned into products and services that create growth and jobs.

2. Youth on the move: to enhance the performance of education systems and to facilitate the entry of young people to the labour market.

3. A digital agenda for Europe: to speed up the roll-out of high-speed internet and reap the benefits of a digital single market for households and firms.

4. Resource efficient Europe: to help decouple economic growth from the use of resources, support the shift towards a low carbon economy, increase the use of renewable energy sources, modernise our transport sector and promote energy efficiency.

5. An industrial policy for the globalisation era: to improve the business environment, notably for SMEs, and to support the development of a strong and sustainable industrial base able to compete globally.

6. An agenda for new skills and jobs: to modernise labour markets and empower people by developing their of skills throughout the lifecycle with a view to increase labour participation and better match labour supply and demand, including through labour mobility.

7. European platform against poverty: to ensure social and territorial cohesion such that the benefits of growth and jobs are widely shared and people experiencing poverty and social exclusion are enabled to live in dignity and take an active part in society. (Source: Europe Commission website)

These seven flagship initiatives will commit both the EU and the Member States. In order to achieve the goals of Seven Flagship Initiatives within the stipulated timeframe i.e. 2020, the Europe Union and Member countries need stronger governance and also need to strengthen the coordination within economic and monetary union. No doubt, Europe is following India’s footstep on flagship schemes/ initiative. But, the success of their Flagship initiative mostly depends on the effectiveness of the governance and coordination within the union.