Asset Prices and Macroeconomy in India

I was pretty excited when I saw the title and abstract of the new IMF paper by Catriona Purfield titled India: Asset Prices and the Macroeconomy’.

The abstract reads:

This paper examines rising asset prices in India. For the most part, asset prices in India reflect structural factors but the risk of a correction cannot be ruled out. However, at this juncture monetary policy may not be the most effective tool to safeguard financial stability because (i) India’s economy is undergoing rapid structural change making it difficult to identify price misalignments; (ii) the macroeconomic impact of an asset price correction is likely to be small; and (iii) the relationship between monetary policy and asset prices is also weak. Targeted changes in financial regulations are better tools to address potential risks.

The paper starts by discussing which asset markets are important in India.

It says 3 assets are important- real estate, equity markets and gold. 

It justifies real estate’s importance on the basis that households invest 53% of their savings as physical. It should have then used the same parameter for equity markets. But it simply says equity markets are important because of market capitalization, foreign money etc. I can understand gold but equity?? Just 4.9% of households savings go into equity in 2005-06. For most of 2000s the % is below 2%.

Then it discusses the growth in the three asset markets. Nothing much to say there except the fact that in all three, prices have grown.

The interesting part of the paper would have been the impact of rising asset prices on macroeconomy and this is where the paper disappoints the most. It discusses the various channels via which asset prices effect real economy. It argues asset prices would have smaller impact on Indian economy as:

1) Households have low exposure to financial assets
2) Property and gold cannot be leverages as markets are not developed.

As it discusses 3 asset markets you would assume that paper would link all the 3 with real economy but it only covers the linkage with equity prices saying:

The model includes four variables: real private consumption per capita, real stock exchange index to proxy for developments in asset prices (time series on property and gold holdings are not available), real short-term interest rates to control for the impact of monetary policy, and real per capita income to proxy for income, as well as an exogenous dummy variable to capture the structural changes in the economy following the 1991 balance of payments crisis.

This is simply not expected from IMF. Why not call the paper instead- India: Equity Prices and the macroeconomy. They could have added that ideally we would like to cover more asset prices but could not do so. 

As far as results go, equity prices have little impact on consumption, but then the entire idea is lost.

The final section of the paper argues whether mon pol is suited to correct the rising asset prices in India. Well, most know mon pol works via transmission i.e. mon pol impacts various markets indirectly. So atleast you would expect some model from IMF showing how mon pol transmission works in India.

But even that is ignored. It simply says for Mon Pol to target asset prices the central banker needs to identify bubbles and as that is difficult to do, mon pol would not be effective!!

The paper is really disappointing. It could have been a lot better.

2 Responses to “Asset Prices and Macroeconomy in India”

  1. Apurv Says:

    What the heck??? Sensex scores zoomed in a T20 fashion!

  2. shromon das Says:

    I came across this paper some time back…My honest opinion is that the author seemed a bit confused while writing the paper, and even some of reasoning can be countered. But after all, who defies the IMF?

    Do visit my blog for similar discourses.


    Shromon Das

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