Pre-mature capital account convertibility can harm economy: RBI

Reserve Bank of India (RBI) Governor D Subbarao said that India will "gradually" move to capital account convertibility only after preconditions such as fiscal consolidation is fulfilled.

"There is no evidence (the world) that capital account convertibility, regardless of macroeconomic conditions, it was a positive force," he said at a panel discussion on India's economic reforms and development here yesterday evening.

On the contrary, evidence suggests that premature capital account liberalization can create macroeconomic imbalances with huge costs for growth and well-being, he said.

"All the historical evidence shows that pre-mature capital account liberalization can turn you into a 'high beta' economy," he said, explaining that high beta economy is vulnerable to a volatile external loops, sharp fluctuations in exchange rates and assets prices and a build-up bubbles.

Capital Account convertibility (CAC) - or a floating exchange - means the freedom to convert local financial assets into foreign financial assets and vice versa in a market determined rates of exchange. This means that capital account convertibility allows anyone to freely move from local currency into foreign currency and back.

"We are committed to opening the capital account gradually along the road map, with the road map itself to start using recalibrated on a dynamic basis," the Governor said. "We need to balance the needs of the macro economy with the compulsions of macroeconomic and financial stability."

Preconditions for CAC is a "fiscal consolidation, financial sector should be more resistant, to increase our export competitiveness and imposts should be more price elastic and a more liberal FDI policy with a less bureaucratic interface, and became more friendly investment destination," he said.

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