Duvvuri Subbarao: A revolution in monetary policy
Welcome remarks by Dr Duvvuri Subbarao, Governor of the Reserve Bank of India, at the
15th C D Deshmukh Memorial Lecture on "A revolution in monetary policy - lessons in the
wake of the global financial crisis" delivered by Prof Joseph Stiglitz, Mumbai, 3 January
2013.
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1. On behalf of the Reserve Bank of India, I have great pleasure in welcoming
Prof. Joseph E. Stiglitz, who will shortly be delivering the C.D. Deshmukh Memorial Lecture.
Also, a warm welcome to Mrs. Anya Stiglitz who has accompanied him. I am delighted to
acknowledge the presence here of the family members of Sir Chintaman Deshmukh
- Shri Atul Deshmukh, Smt. Sheetala Deshmukh, and their children, Ashish and Priyanka,
Prof. Sunita Chitnis and her son Dr. Ajay Chitnis. Your presence here means a lot to us.
Finally, and importantly, a warm welcome to all our invitees to this prestigious lecture.
C.D. Deshmukh
2. Sir Chintaman D. Deshmukh has a special place in the history of the Reserve Bank.
He was the first Indian Governor of the Reserve Bank, and served the institution with great
distinction and dignity from August 1943 to June 1949. He presided over the transformation
of the Reserve Bank from a private shareholders' bank to a nationalised institution and was
the intellectual force behind the enactment of a comprehensive legislation for the regulation
of banking companies which has stood the test of time. Governor Deshmukh participated
actively in the establishment of the Bretton Woods Institutions in 1945 and played a critical
role in managing India's nascent economy as we confronted the challenges of war financing
following the Second World War.
3. After leaving the Reserve Bank, Shri Deshmukh went on to become the Finance
Minister of India, a career graph repeated by our current Prime Minister, Dr. Manmohan
Singh nearly forty years later. Shri Deshmukh brought to the office of the Finance Minister a
passion for newly independent India's development and a humane and inclusive vision for
nation building. By all accounts, Sir Chintaman Deshmukh was one of the finest public policy
intellectuals of post-independence India.
4. The Reserve Bank instituted the C.D. Deshmukh Memorial Lecture in 1984 to
honour the memory of this illustrious Governor of the Bank. The last Deshmukh Memorial
Lecture was delivered by Lord Adair Turner in February 2010 on: "After the Crisis: Assessing
the Costs and Benefits of Financial Liberalization".
Today's speaker - Prof. Stiglitz
5. It is befitting that the fifteenth C.D. Deshmukh Memorial Lecture today will be
delivered by a pre-eminent public policy intellectual and one of the most influential
economists of our time. Introducing Prof. Stiglitz is a challenge because he is so well known
and that no introduction can be original or revealing. It is a challenge also because his
contribution to public policy has been so enormous and phenomenal that it is difficult to
summarize that briefly. Nevertheless, I will take on the task of introducing Professor Stiglitz if
only to pay homage to a tradition.
6. Professor Joseph Stiglitz is currently University Professor at Columbia in New York
and Co-chair of Columbia University's Committee on Global Thought.
7. In 1979, Joseph Stiglitz was awarded the coveted John Bates Clark Medal, given by
the American Economic Association to an economist under 40 who has made the most
significant contribution to the field. Prof. Stiglitz lived up to that early promise by winning, as
we all know, the Nobel Prize for Economics in 2001 for his analysis of markets with
asymmetric information. He has the distinction, in a sense, of a "double Nobel" as he was a
lead author of the 1995 Report of the Intergovernmental Panel on Climate Change, which
shared the 2007 Nobel Peace Prize. In 2011, the prestigious Time magazine named him one
of the 100 most influential people in the world.
8. Prof. Stiglitz helped create a new branch of economics, "The Economics of
Information", exploring the consequences of information asymmetries and pioneering such
pivotal concepts as adverse selection and moral hazard which have now become standard
tools not only of theorists, but also of policy analysts.
9. I am sure many in this audience have read his book Globalization and Its
Discontents. Some of you may have read the authorized edition, some may even have read
the pirated edition because this seminal book has been translated into 35 languages,
besides at least two pirated editions. In the non-pirated editions, it has sold more than a
million copies worldwide. His most recent book, The Price of Inequality: How Today's Divided
Society Endangers Our
Future, hit the New York Times best seller list within a few weeks of
publication. The book provides a powerful critique of the free market orthodoxy, but ends on
a note of hope, arguing that "another world is possible".
Revolution in monetary policy
10. The topic for Prof. Stiglitz's Lecture today is: "A Revolution in Monetary Policy:
Lessons in the Wake of the Global Financial Crisis".
11. Since the topic is about a revolution in monetary policy, I can do no better than
invoking Vladimir Lenin, something of an authority on revolutions, who said: "A revolution is
impossible without a revolutionary situation". Global macroeconomic developments over the
past five years have indeed led central banks to a revolutionary situation. When the crisis hit
following the collapse of Lehman Brothers, central banks acted with an unusual show of
policy force, quickly exhausted their conventional tools, then threw out the rule book and
went on an uncharted territory of money creation which has taken many names and
metamorphosed into many acronyms.
12. Today, there is quite some bewilderment among policy makers, particularly central
bankers, about what else can be done to engineer a recovery. This bewilderment has
spawned a vigorous, interesting and instructive debate on the pursuit of monetary policy. Let
me briefly outline some key issues in this debate.
Quantitative easing
13. The point of departure in this debate is the view that after policy interest rate has
been brought to the zero lower bound, nothing else needs to be done except for the central
bank to say that it will keep interest rates low in the future too. It is argued that this would
encourage people to borrow more and spend it, bailing the economy out of recession.
14. But this idea of topping up monetary easing with communication may not always
work. People may not believe that the central bank will keep its promise of low interest rates.
Even if they believe the central bank, they may not still borrow since what they are trying to
do is to get out of debt rather than get into further debt as is the case today.
15. So, how do central banks improve their credibility? By tying their promise of low
interest rates to specific quantitative real sector variables? The US Federal Reserve has
recently led the way in this direction by saying that it will keep interest rates low as long as
the unemployment rate remains above 6.5 per cent, and in the process, is willing to tolerate
inflation slightly above its long-run target. Another way of reinforcing this promise of low
interest rates is the idea of shifting from targeting inflation to targeting nominal GDP.
Financial stability
16. Quantitative easing has not been the only issue in this monetary policy revolution. A
parallel, if also related, debate has been about the role of financial stability in the monetary
policy objective function. This has raised several questions. What is the role of central banks
in preserving financial stability? When and how should they use monetary policy to pursue
financial stability? If you admit the argument that one instrument can secure only one
objective, do central banks have the policy instruments to pursue the financial stability
objective?
Independence of central banks
17. A third major debate in monetary policy has been about the independence of central
banks. In recent weeks, we have all seen this issue of central bank independence play out in
Japan with political pressures on the Bank of Japan to adopt a higher inflation target so as to
create more room for growth stimulus. The example of Japan is recent and high profile, but
by no means an exception; the issue of monetary policy independence has acquired greater
potency following the expansion of the mandates of central banks and their more explicit
pursuit of real sector targets such as growth and unemployment.
Emerging market economies and monetary policy revolution
18. Revolution in monetary policy is not exclusive to advanced economy central banks.
Emerging market economy central banks are going through a revolution too with, of course,
different nuancing. They have not been inflation targetters in the strict sense; they have
always struggled to maintain the balance between growth and price stability. And learning
from the experience of several country specific and regional crises, they have also added,
either explicitly or implicitly, financial stability to their objective functions.
19. Monetary policy revolution in emerging market economy central banks has an
additional dimension, which is that in formulating their monetary policy, they are having to
contend with the forces of globalization, in particular the spillover impact of the advanced
economy central banks. The "impossible trinity" asserts that a country cannot simultaneously
maintain all three policy goals of free capital flows, a fixed exchange rate and independent
monetary policy. Recent experience in emerging market economies has demonstrated that
the "impossible trinity" is no longer a text book paradigm; balancing between these three
policy goals is becoming a practical policy consideration.
Monetary and fiscal policies
20. Even as monetary policy, both in advanced and emerging market economies. is
going through a "revolution", one thing is clear. Central banks cannot fix economies by
themselves. Governments need to act too from the fiscal side, and monetary and fiscal
policies have to act in harmony. On top of this, governance needs to improve to inspire the
trust and confidence of consumers and investors.
21. The crisis is still with us; and the revolution in monetary policy is still work in
progress. But it has thrown up a number of questions. How will this revolution play out? What
will it mean for the mandates of central banks and the autonomy with which they will deliver
on that mandate? Who will win and who will lose? And, to sum it all up, what are the lessons
from this "revolution" for monetary policy? For answers to these weighty questions, who
better to turn to than Professor Joseph Stiglitz.
22. Ladies and gentlemen, please join me in welcoming Professor Joseph Stiglitz to
deliver the C.D. Deshmukh Memorial Lecture on: "A Revolution in Monetary Policy: Lessons
in the Wake of the Global Financial Crisis".