Indian central bank says big forex moves to affect economy

India's central bank governor said any large adjustments in major currencies and global interest rates would have a significant impact on the economy, although it might not be as big as in other emerging markets.
In a speech that he gave to the United Nations on Thursday, Yaga Venugopal Reddy said India, which began opening up its economy in 1991, had a large stake in the process of unwinding global imbalances and was willing to play its part in ensuring a successful outcome.
"While India by itself hardly contributes to the current global financial imbalances, any large and rapid adjustments in major currencies and related interest rates or current accounts of trading partners could indirectly, but significantly, impact the Indian economy," Reddy said in the speech, released by the central bank on Friday.
Last week Prime Minister Manmohan Singh called for a co-ordinated effort to correct imbalances and urged global financial institutions to work to prevent a world-wide economic downturn.
"The central bank believes that such unwinding may potentially turn out to be disorderly, though it may be a low probability, and in that case it could have significant implications for domestic bond and currency markets," Sanjeet Singh, head of research at ICICI Securities at Mumbai, said.
Some economists say the United States is responsible for part of the global imbalances as it consumes too much, running up unsustainable current account and fiscal deficits, while others charge that China's unfairly low exchange rate is the problem.
China says it is pursuing yuan reforms as part of long-term efforts to rebalance its economy but it bristles at demands from other countries. Earlier this week, the US Treasury stopped short of calling China a currency manipulator in a report.
India's economy, Asia's third-largest, is mainly driven by domestic demand and the government restricts foreign investment in government and corporate bonds and in the banking sector.
The government borrows from the local bond market to fund a large part of its fiscal deficit and analysts say that helps cushion the economy from swings in global markets.
Indian policy makers are increasingly focusing on Beijing as China takes over from the United States as the biggest source of imports for India.
India's bilateral trade with China reached $13.6 billion in 2004. China and Hong Kong together accounted for 9 percent of India's total foreign trade, although the United States and the euro zone are India's largest trading partners.
Reddy said India was likely to maintain a modest, sustainable current account deficit in the near future. India's current account registered a $5.4 billion deficit - nearly 0.9 percent of gross domestic product - in the fiscal year to March 2005, the first shortfall in four years.
Analysts estimate the deficit widened to about 3 percent of GDP in 2005/06 as the trade gap widened on the back of a rising oil bill and imports outpaced exports in a robust economy.