k c chakrabarty : banking and beyond – new challenges before indian financial system address by dr k c chakrabarty, deputy governor of the reserve bank of india, at the mint ’ s clarity through debate, mumbai, 15 march 2011. * * * 1. lord stephen green, minister for trade and investment, uk, distinguished panelists, distinguished guests, ladies and gentlemen. first of all my thanks to mint, mumbai, and to my good friends tamal and r sukumar for inviting me to initiate today ’ s debate – “ banking & beyond : new challenges before indian financial system ” with a panel of luminaries on the stage. over the years, mint, through its clarity through debate trail - blazer series has been flagging topical public policy issues and challenges and acquired a niche of its own in the corporate mindscape as a thought leader in the financial sector. good work. kudos and my best wishes for the mint team. 2. winston churchill once said that “ in finance, everything that is agreeable is unsound and everything that is sound is disagreeable. ” i suspect many of my views may spark a strong feeling of disagreement but will hopefully stimulate passionate public debate. i am more convinced than ever that financial markets require a healthy dose of regulation to function efficiently. i am more convinced than ever that too - big - to - fail, or too - big - to - save banks represent veritable systemic risk concerns, which are sure to bring in more unpredictability in the system, need to be credibly and effectively tackled. and i am more convinced than ever that central banks operate most effectively and optimally when insulated from any external interference. 3. even though it is a bit customary now - a - days to have a discussion on any topic with the tag “ next ” or “ beyond ”, this particular issue holds enormous importance for all of us in india. however, in today ’ s integrated world, what i shall be talking would be very much relevant for other emerging markets also. hence, i would dwell upon the issues that stare the global economic recovery in the face and the key elements that will shape the emerging new financial architecture. these issues are pretty much similar to what banks in india are / will be struggling with. 4. although, the recent global financial crisis and the resultant recession had its origin in the developed western world ; but its contagion did not spare the emerging economies like india. once

2002 and the first half of 2003 from the peak they reached at the end of 2001. most of the fall was in the level of commercial bank deposits at the cbbh and came about mainly because banks were expanding their domestic credit rapidly and, as a consequence, they reduced the level of deposits they held at the cbbh. the fall in the level of foreign reserves has been reversed in the last few months, primarily because of changes we made to the reserve requirement system for banks. our foreign reserve holdings are now back over km 2. 6 billion and are close to the peak level achieved during the euro changeover period. the cbbh ’ s net foreign reserves represent around three and a half months of import coverage, which is a ‘ comfortable ’ level. full convertibility as the following table shows, the km has been a convertible currency within bh in practice as well as in name. table 2 net km issued from 11 / 8 / 97 to 25 / 11 / 03 km billion km issued to bh banks km purchased from bh banks net km issued 12. 097 9. 851w 2. 246 the success of the currency board arrangements the currency board has been a very successful type of monetary policy for bh : • the km has been a stable currency against the dm and the euro since it was introduced. • inflation in bh is now low and stable. table 3 inflation in bh retail price index, annual % growth year ended dec 2000 dec 2001 dec 2002 sept 2003 federation of bh republika srpska bh average 4. 0 0. 3 – 0. 7 0. 5 16. 1 2. 2 2. 4 1. 9 8. 0 0. 9 0. 3 0. 9 • km use has risen steadily in bh and the km is now the dominant transactions currency in all parts of the country ( euros are generally accepted too, at least for larger transaction ). • the proportion of bank deposits denominated in km is also growing, though more than 50 % are still denominated in foreign currency. • the km has remained fully convertible in bh since it was introduced. • the stability of the km has been an important element in increasing the level of foreign direct investment coming into bh. table 4 foreign direct investment into bh in km m. period 2002q1 and 2 2003q1 and 2 foreign direct investment 117. 4 324. 5 310. 1 274. 1 604. 3 261