Mumbai: Maurice Obstfeld is one of the many macroeconomists trained by the legendary Rudi Dornbusch who have gone on to make a mark in international policy. His two textbooks with Paul Krugman (on international economics) and Kenneth Rogoff (on international macroeconomics ) are standard reading material for students. Now chief economist of the International Monetary Fund (IMF), Obstfeld was in Mumbai to speak at the Reserve Bank of India (RBI) on “Macrofinancial shocks and the trilemma", where he reiterated his views on a new financial stability trilemma with complicated trade-offs between open capital accounts, exchange rates and domestic financial stability. Later, Obstfeld spoke to Mint about the global economy, India and the problem of international monetary coordination.

Edited excerpts:

The world economy is in the midst of a synchronized recovery. Is it sustainable?

Things are indeed going very well. We increased our forecasts for global growth in 2017 and 2018 by 0.1 percentage point each in September. Global trade is growing rapidly as well. Investment has increased, and remember that investment is trade-intensive.

We view this as a cyclical upswing, with output gaps closing. The longer term potential growth numbers are much the same. That is why the IMF has been telling governments to undertake structural reforms before the next slowdown. Fiscal buffers are depleted and monetary policy space is limited. The good times will not last forever.

One result of the global economic recovery is that the US has begun to tighten monetary policy. Will this disrupt global capital flows? And what are the risks for India if that happens?

There are a number of global concerns about the transition to higher interest rates in the US. I believe the transition will be a gentle one. India is in a relatively good place. Foreign exchange reserves are at a record high. The current account deficit is not negligible, but it is supported by foreign direct investment inflows. Structural reforms are happening. So India is not specifically a vulnerable country. There is no imminent threat.

What do you think of the recent economic reforms in India?

There have been impressive reforms. If you look around the world, it is hard to find reforms on this scale. The asset quality review by the RBI, the recapitalisation of banks, the improvement in the ease of doing business rankings of the World Bank, the insolvency and bankruptcy code (IBC), the goods and services tax (GST) are all important. However, we still have to see how some of them work in practice. The proof of the pudding is in the eating. For example, there is still scope for simplifying the GST structure to make it more effective. The governance structure of public sector banks also needs attention.

You said India is in a good position to deal with any sudden global shock following the tightening of US monetary policy. Is the fact that India still has higher inflation and fiscal deficit than the rest of the world a problem?

Inflation did fall sharply in the first half of the year. I think the RBI has done a good job in terms of anchoring inflation expectations. It is true that Indian public debt is higher by emerging market standards, but the government is trying to bring it down. Faster growth will also help. The underlying dynamics of inflation and growth are adequate in the case of India. But policymakers have to be careful about slippages.

The Indian central bank has been criticized for allowing the rupee to be overvalued in real terms, leading to a loss of export competitiveness. What do you think about this issue?

People often tend to forget that domestic inflation is also an important determinant of export competitiveness. They also ignore other factors of REER (real effective exchange rate) appreciation such as a high fiscal deficit. Foreign exchange intervention is useful when there are disorderly conditions in the market, but we must be careful about trying to maintain the exchange rate at a particular level, especially in these times when it could lead to tension with trading partners.

One of the lessons of the past decade is that monetary policy expansion in the developed economies has significant effects on the rest of the world. How can the problem of spillovers be managed?

That is a tough question. Fundamentally, it is important for every country to keep its house in order to deal with global shocks. At the same time, I do not think the advanced economies can sit back and say that the emerging market economies should manage on their own. The emerging markets are big, and any problem there will affect the advanced economies as well. Look at the China currency shock in 2015. That is one reason why the US Fed did not hike interest rates in December 2015, citing instability in the global markets.

The emerging markets do not have access to international swap lines. So they depend on self-insurance through high foreign exchange reserve accumulation. Governor Urjit Patel has even described the asymmetry as a case of apartheid. Any comments?

Yes, this is an important asymmetry. Swap lines are available to only a small group of advanced economy central banks. Emerging market economies have to wait for a global crisis to get support. There is a weakness in the global financial safety net, and the Fund is trying to address this issue. However, the political reality is that there is not a lot of appreciation of this problem, since people have become more inward looking in many countries. So I am not too optimistic about seeing this problem solved.

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