dear everyone
An interesting article, which speaks about liquidity - views invited
READING IT WRONG.
T.C.A. Srinivasa-Raghavan
New Delhi, Nov. 1 Can a business confidence issue be tackled by flooding the
system with money? The Government and the Reserve Bank seem to think so. So in
the last month or so, the two have decided to pump in upwards of something like
Rs 3,00,000 crore into the banking system - not counting the money multiplier.
The diagnosis - deficient demand - is essentially Keynesian, but the instrument
is not. The two hope that by putting in so much money, they can revive
aggregate demand.
This will not happen because the Keynesian prescription was different in its
choice of agency. It recommended using fiscal policy for reviving demand. That
meant direct investment by the government into public works, such as
road-building, not indirect investment via two layers of intermediation - banks
and borrowing firms.
This would work better, said Keynes, because firms do not decide to invest on
grounds of public interest.
They invest for profit. So if firms decide, for whatever reason, that
investment is not profitable, they will not invest. It is like taking the horse
to the water.
It is this element of discretion that the Government and the RBI are not
factoring in - and thus building up the mother of all inflationary potentials.
The current dip in inflation is largely a statistical (base) effect.
Dropping rates
It is worth noting that faced with a similar deficiency in aggregate demand,
Japan had dropped interest rates to zero in the mid-1990s, to no avail. The US
is getting near to a zero rate of interest - it is already at 1 per cent - and
it would be a brave man who would predict a quick recovery there.
Keynes had worked this out, too. He called this phenomenon the 'liquidity
trap'. What happens is that banks worry that they will suffer capital losses
and prefer not to lend. Usually, it is the fear of default that acts an
inhibitor, especially during a financial crisis. The problem gets aggravated
when nominal interest rates fall too low, because when they do start to go up,
bond prices will go down, and cause losses.
'Helicopter money'
Milton Friedman, the ultimate monetarist, had suggested a way out. Avoid
financial intermediaries and give the money directly to people and business.
Perhaps, because of its control over the public sector banks, this is what the
Government hopes to do: Order to them to give away money. This was called
helicopter money, because it is dropped by the central bank like confetti!
http://www.thehindubusinessline.com/2008/11/02/stories/2008110251420100.htm
Rich get experience. Experienced get rich.
--~--~---------~--~----~------------~-------~--~----~
You received this message because you are subscribed to the Google Groups
"Kences1" group.
To post to this group, send email to [email protected]
To unsubscribe from this group, send email to [EMAIL PROTECTED]
For more options, visit this group at
http://groups.google.com/group/kences1?hl=en
-~----------~----~----~----~------~----~------~--~---
