‘Muted impact on India due to strong external position’
MUMBAI: The impact of US Federal Reserve’s announcement in November last year to taper its asset purchases was “moderate” on Indian financial markets largely due to the country’s strong external position in 2021, says an article.
The article published in the Reserve Bank of India’s (RBI) monthly bulletin for July compared the impact of the two taper announcements (May 22, 2013 and November 3, 2021) by the US Federal Reserve (Fed) on Indian financial markets.
The article - Fed Taper and Indian Financial Markets: This Time is Different - is prepared by Vidya Kamate and Saurabh Ghosh from Strategic Research Unit, Department of Economic and Policy Research, RBI.
The central bank said views expressed in the article were those of the authors and do not necessarily represent the views of the RBI. The authors said in terms of changes in government bond yields, yield curve, and exchange rate, the impact of the Taper 2 announcement (November 3, 2021) was found to be rather muted.
In comparison to the Taper 1 announcement (May 22, 2013), movements in Indian equities, bond, and currency market volatility were also observed to be rather muted in the Taper 2 announcement period.
“The Indian financial markets’ mild response to the Taper 2 announcement can be linked to the country’s strong external sector position during the Taper 2 announcement period,” the article said. In response to the Global Financial Crisis, the Fed’s large-scale asset acquisition programme was launched in November 2008.
On May 22, 2013, Fed Chairman Ben Bernanke first hinted that the Fed could taper Quantitative Easing (QE), also known as Taper 1, which caused a bond market meltdown that raised the 10-year yield by nearly a percentage point.
In the wake of the dysfunction of the treasury and mortgage-backed securities (MBS) markets after the outbreak of COVID-19, the Fed announced on March 15, 2020 that it would buy at least $500 billion in treasury securities and $200 billion in MBS. On November 3, 2021, the Fed announced a taper in asset purchases to the tune of $10 billion in treasuries and $5 billion in MBS per month (Taper 2).
In December 2021, the Fed announced a doubling of its tapering speed and said the asset purchases would end in March 2022. Explaining the differential financial market response during the two taper announcements, the authors said that the Taper 1 announcement caught the financial markets across the world by surprise, and hence, led to a significant adverse reaction.
The Taper 2 announcement, on the other hand, was somewhat anticipated by the financial markets given the past experience with Taper 1 and Fed communication subtly hinting at chances of taper in the periods leading up to the Taper 2 announcement, they said.
“A lower current account deficit as a percentage of GDP, larger foreign exchange reserves and stronger economic growth in Taper 2 vis- -vis Taper 1 period imply that the Indian economy is in a much better shape to withstand Fed tightening and manage any associated change in volatility in financial markets,” it said.
The article said the inflation dynamics in India were also vastly different in Taper 1 as against Taper 2 announcement period.
The RBI article compared impact of the two taper announcements (May 22, 2013 & November 3, 2021) by US Federal Reserve on Indian financial markets