INSUBCONTINENT EXCLUSIVE:
NEW DELHI: The US Fed should reduce the pace of unwinding of its balance sheet to limit the impact of shortage of dollar in emerging
markets, RBI Governor Urjit Patel said.
In an article written in the Financial Times, he said that the Fed should carefully adjust the pace
keeping in view the evolving macroeconomic conditions
"Global spillovers did not manifest themselves until October of last year
But they have been playing out vividly since the Fed started shrinking its balance sheet
This is because the Fed has not adjusted to, or even explicitly recognised, the previously unexpected rise in US government debt issuance
It must now do so," he said
The good news, he said, is that there is an option available to the Fed that does not require it to change the overall policy direction
"It can simply recalibrate its normalisation plan, adjusting for the impact of the deficit
A rough rule of thumb would be to reduce the pace of its balance-sheet contraction by enough to damp significantly, if not fully offset, the
shortage of dollar liquidity caused by higher US government borrowing," he said
Such a move would help smooth the impact on emerging markets and limit effects on global growth through the supply chains that span both
developed and emerging economies, he said, adding, otherwise, the possibility will increase of a "sudden stop" for the global economic
It may hurt the US economy as circumstances have changed, he said
Observing that dollar funding of emerging market economies has been in turmoil for months now, he said, unlike previous turbulence, this
episode cannot be attributed to the US Federal Reserve's moves on interest rates, which have been rising steadily since December 2016 in a
"The upheaval stems from the coincidence of two significant events: the Fed's long-awaited moves to trim its balance sheet and a
substantial increase in issuing US Treasuries to pay for tax cuts," he said
Given the rapid rise in the size of the US deficit, he said, the Fed must respond by slowing plans to shrink its balance sheet
"If it does not, Treasuries will absorb such a large share of dollar liquidity that a crisis in the rest of the dollar bond markets is
Consider the scale of both events
Starting in October 2017, the Fed began reducing reinvestment of the coupons it receives from debt securities holdings," he said
That shrinkage will peak at USD 50 billion a month by October and total USD 1 trillion by December 2019
Meanwhile, he said, the US fiscal deficit is projected to be USD 804 billion in 2018 and USD 981 billion in 2019, implying net issuance by
the US government of USD 1.169 trillion and USD 1.171 trillion, respectively, in the two years
So, the withdrawal of dollar funding by the Fed, as it reduces its reinvestment of income received, is proceeding at roughly the same pace
as that of net issuance of debt by the US government, he added
