deepak mohanty : impact of the euro area crisis on south asia paper by mr deepak mohanty, executive director of the reserve bank of india, presented at the saarcfinance group meeting, islamabad, 18 june 2013. * * * the assistance provided by dr. mohua roy and mr. somnath sharma is gratefully acknowledged. the global financial crisis originated in the us and then spread to europe. while the global growth has recovered from the trough of 2009, europe has lapsed into recession again. the continuing uncertainty in the euro area poses a major risk to the global economy today. it has affected the growth prospects of both advanced and emerging market economies through trade, financial and confidence channels. given the interconnectedness of global financial markets, the principal risk to emerging markets and developing countries ( emdes ) arise from ‘ risk on ’ and ‘ risk off ’ behaviour of global financial market. of late through following resolute policy actions, financial conditions have improved in the euro area ( imf, 2013 ) 1. however, the real economy has shown no sign of improvement. with very little fiscal space, macro policy response to growth slowdown remains limited. the euro area crisis first surfaced in 2009 when portugal, ireland, greece and spain slipped into recession with exceedingly high budget deficits. the crisis deepened further in 2010 with credit rating agencies downgrading the sovereigns and banks in the peripheral europe. this significantly dented confidence, even threatening the very existence of the euro. consequently, the risks to the global economy rose. against this backdrop, i briefly touch upon the causes of crisis and subsequent stability enhancing policy measures in euro area. i then turn to how the crisis affected south asia, particularly india. i conclude by highlighting some mitigating measures that we have taken to strengthen our external account. causes of the crisis the problems in the euro area are largely structural in nature and existed even prior to the crisis. the global crisis only amplified the weaknesses in the system. “ in the years preceding the crisis, the eu became divided between countries with positive trade balances and sound budgets – the core - and those with growing budget deficits and external deficits financed by private credit flows increasingly sourced from the first group of countries for unproductive spending – the periphery. with the onset of global financial crisis, the external deficits, budget deficits and levels of public debt of the countries in the second group largely became unsustainable once they were no longer

a public debate and consultation process is now under way. second, an effort to co - ordinate action on the remaining barriers to the development of the bond market is in motion. a very important motivation for this is the sharp rise in infrastructure spending and the need to ensure that this is not hindered by financial constraints. third, a process of consultation with individual banks with the objective of developing realistic financial inclusion plans is going on. i will conclude by highlighting three balancing acts that our financial sector development strategy needs to perform : 1. between the drivers of financial sector growth and the requirements of the larger growth and development agenda 2. between the benefits and risks of greater global integration 3. between the advantages of scale and the compulsions of diversity i trust that these thoughts will be a useful input into the discussions that follow and i thank the organizers of this panel for the opportunity to share them with you.