##roved in recent years. the world's largest economy, the united states, currently runs a current account deficit, financed to a substantial extent by capital exports from the emerging market economies. of course, it can be argued that the so - called “ global imbalances ” are a reflection of incomplete globalisation. but the fact remains that as long as globalization happens to be incomplete, public policy has to manage the consequential " imbalances ". secondly, in a globalising world, the context in which monetary policy is set, often leads to a confrontation with the impossible trinity – independent monetary policy, open capital account and managed exchange rate. the theory holds that at best, only two out of the three would be feasible. in practice, however, there is a shift in preference away from the corner solution with respect to financial imbalances. currently, intermediate solutions, which were earlier regarded as “ fuzzy ”, are now becoming increasingly relevant. moreover, in recognition of the differences between trade and financial integration – first pointed out by jagdish bhagwati – there is less certainty today about the corner solutions than in the past. thirdly, at a practical level, the recent experience seems to indicate that globalisation may have had accentuated potential conflicts that can impact the fabric of our societies, particularly, in view of rising corporate profits coupled with a reduction in share of remuneration for the labour. in this regard, i was struck by what mr. john micklethwait, editor - in - chief of the economist is reported to have said in an interview, as mentioned in a leading daily yesterday ( march 18, 2007 ). he said this in the context of the process of globalisation : " but as far as globalisation goes, i am worried about one thing : if you look at inequality, particularly in america, the rich have got even richer and the median income has barely budged. what is interesting is that just in the last couple of quarters, you began to see a sign of the wages beginning to rise. what if you have seen in the last ten years is the returns to capital increasing dramatically and returns to labour proportionately going down? what is happening now is that if you have the prospect of a downturn, then inequality will become much bigger issue in the american elections. around the world it is already a much bigger issue, including in places like japan. the corporate boss in japan now is paid 35 times what the

##erabilities to asset prices, which move very sharply in times of market turbulence. balance sheet adjustments played a critical role in the impairment of financial systems in developed economies, by sharply reducing their capacity to provide finance. in turn, this probably contributed to both the magnitude and persistence of the slowdown in growth. by contrast, while emes were hit by liquidity constraints, which i referred to earlier in the indian context, the stability of balance sheets as a result of a more “ traditional ” structure helped to preserve the systems ’ capacity to provide finance. liquidity infusions quickly transmitted through to businesses and helped prevent the escalation from liquidity to solvency problems. the second structural factor in the indian context, in my view, is the capital account management framework. before the crisis, capital controls were generally seen as a hindrance to smooth global integration and a source of inefficiency. the perspective has changed somewhat, with an emerging view that some kinds of capital controls may provide temporary relief from the instability being transmitted from global shocks through high volatility in capital flows. this is still an evolving global debate, but the indian experience perhaps makes some contributions to it. broadly speaking, the indian approach to capital controls is based on a preference ordering. there are virtually no limits on foreign direct investment, apart from some sector - specific restrictions, which are not directly motivated by macroeconomic considerations. this channel is seen as being growth and productivity enhancing. there are virtually no limits on foreign portfolio investment into equities. in this channel, both market risks and exchange rate risks are fully borne by the foreign investor. however, there are limits on debt flows. these are the least preferred, essentially because the domestic borrower is obliged to repay and bears the exchange rate risk. within this category, long - term debt is preferred to short - term debt. external debt obligations can put enormous strain on the capital account if they are redeemed in the face of a global shock. putting some kind of limits on them reduces the vulnerability of the economy to this strain. looking back over the crisis period, when outflows from equity investments were so large, it is easy to imagine that the pressure and the consequent impact on domestic markets would have been far more intense if debt obligations were also being redeemed at the same time. i would describe the restrictions on debt inflows with respect to quantum, tenure and pricing which are currently in place as “ strategic ” in nature.