## Monday, June 30, 2014

### Responding to the distress in Indian banking

Indian banking is in a spot of trouble, and some are proposing using public money to setup an asset management company'. In the Economic Times today, I argue this is a bad idea

## Friday, June 27, 2014

### Process design for drafting laws

Writing in the Business Standard today, Omkar Goswami is concerned about the Companies Act, 2013. His concerns about circulars under this Act are consistent with Pratik Datta's blog post on 24 June. In November 2011, I had written about the faulty idea of forced spending of 2% of profit on corporate social responsibility'. The social responsibility of corporations is to obey laws, make profits and pay dividends to their owners. If their owners wish to gift money to charities, that is their call.

Omkar ends his piece saying:
Instead, let us get a tight team of recognised experts; draft a new Bill in 90-120 days while keeping the good sections of TCA 2013; and get it passed in Parliament as The Companies Act, 2014.
As someone who lived through a big project that drafted law, I don't agree with this. Suppose we ask 10 persons to put in 20% time over 15 weeks (i.e. 1 full day every week). This gives us 150 man-days of expert time. This is simply not enough to draft a major law. The human resource required for this work is vastly higher.

When we did FSLRC, there were roughly 10 Commission members, who roughly put in 1 full day per month, over a two year period. They were supported by a 30-man technical team at roughly 66% intensity. There was a large cast of external persons which I will approximate at 500 man-days of time. Putting together, my estimate is that we put in 240 man-days of Commission member time, 500 man-days of external expert time, and 10,000 man-days of technical team time. Skills were brought in from the fields of finance, public economics, law and public adminsitration. That's the scale of input which, I think, is required for these big law-drafting projects.

At the end of all this, the result (the draft Indian Financial Code) is not perfect! Slowly, as the dust settles, we are identifying mistakes (example).

I feel we need more ambitious projects in India, that do this kind of complete cleanup about the laws in one sector -- but we need to resource them adequately and give enough time for the work. Quick drafting projects have a high chance of going wrong.

## Tuesday, June 24, 2014

### Analysis of recent regulations on currency futures

by Anjali Sharma.

### Background

India has a successful equity market and has done poorly in other aspects of organised financial trading. There is a natural opportunity to use the knowledge and institutional capabilities of the equity market in order to improve other areas. One priority in this evolution has been the currency market. Almost everything that happens on the currency market would work better on exchange, and SEBI/NSE/BSE know how to make trading on exchange work. By importing the good practices of exchange-traded equities trading, we can make easy progress.

Trading in Exchange Traded Currency Derivatives (ETCD) began in India in August, 2008 [link]. From 2008 till June 2013, this market did reasonably well. In Apr-Jun 2013, the traded volume in this segment had reached USD 5.2 billion (daily average) and the maximum open interest (OI) was USD 5.1 billion. Position limits were set at a percentage of open interest(OI) and were determined at client and member level. Since the OI was building up, these limits were blocking big firms but for others it looked okay. For a while, it looked like we were making progress.

In July 2013, a set of measures were taken by RBI and SEBI which sharply restricted the exchange traded market:
1. Banks were disallowed from taking proprietary positions by RBI (Risk Management and Inter-bank dealings, July 08, 2013), and
2. Position limits on ETCD were brought down to USD 10 mn for clients and USD 50 million for members, by SEBI. In addition, initial and extreme loss margins were increased by 100%.
As a result of these measures, in the quarter of Oct-Dec 2013, the ETCD market volume dropped to USD 3.2 billion and the OI dropped to USD 1.06 billion. For an analysis of the impact of these restrictions, see Impact of restrictions on the trading of currency derivatives on market quality by Rajat Tayal, IGIDR FRG, October 2013.

### Recent actions

On 20th June, 2014, RBI issued two major notifications with respect to participation rules for Exchange Traded Currency Derivatives. These are the most significant actions taken in this segment after July, 2013. One notification addresses participation rules for Foreign Portfolio Investors (FPI ETCD notification). The other is for residents and banks (Residents/Banks ETCD notification). These induce four changes:
1. FPIs are allowed in ETCD for the first time.
2. ETCD rules have been aligned with OTC currency market rules. All positions beyond USD 10 million can be taken only after demonstrating underlying rupee exposure.
3. For any participant, the sum of its ETCD + OTC positions cannot exceed its underlying exposure.
4. AD category I banks are allowed back in ETCD subject to Net Open Position Limits (NOPL). They can net-off their ETCD and OTC positions.

### What these rule-changes imply

Foreign investors and NRIs face three choices:
1. To use the overseas market, where there are no documentation requirements or hedging requirements.
2. To use the onshore OTC market, where there is a documentation requirement and a hedging requirement.
3. Now, for the first time, to use the exchange, and face the same documentation and hedging requirements.

Further, unregistered foreign investors are able to effortlessly use the overseas market, while in India there is the additional hurdle of becoming an FPI without which the onshore exchange market is barred off.

Hence, we may expect that the RBI action will be irrelevant. The biggest asset that India has, in competing for the global market for the rupee, is the efficiency of the exchange. The exchange remains barred off for foreign investors. For domestic participants, underlying rupee exposure has to be demonstrated through a traditional RBI way of thinking about currency exposure. This way of thinking about the currency exposure of firms is analytically wrong.

RBI has also taken this opportunity to hurt non-bank financial intermediation. Any position beyond USD 10 million can only be taken through AD category I banks as members. This will cause the agency business to move from non-bank members to banks. Clients who look for a comprehensive solution, ETCD and OTC and small and large positions, will prefer AD category I banks.

### This is not progress

1. In the interim budget for 2014-15 presented in February, 2014, para 66 says:
To deepen and strengthen the currency derivatives market to enable Indian companies to fully hedge against foreign currency risks.
The RBI actions appear to be checkbox compliance which frustrates the true objective.

2. In the Budget speech for 2013-14 presented in February, 2013, para 95 says:
FIIs will be allowed to participate in the exchange traded currency derivative segment to the extent of their Indian rupee exposure in India.
The RBI actions are late: they come after the year 2013-14 has ended. And, they are checkbox compliance which frustrates the true objective.

3. The issuance of these regulations is in violation of the Handbook regulation making progress. If the due process in the Handbook had been followed, the quality of regulations would go up. The formal process of identifying the market failure, stating a clear objective, doing the cost benefit analysis and consultation would have caught the mistakes.

4. In 2013, in his inaugural statement on taking charge as RBI governor, Raghuram Rajan had said:
But for our financial markets to play their necessary roles of providing risk absorbing long term finance, and of generating information about investment opportunities, they have to have depth. We cannot create depth by banning position taking, or mandating trading only on well-defined legitimate needs.
The recent action runs in the opposite direction.

5. In July, 2008, the RBI-SEBI Standing Technical Committee on Exchange Traded Currency Futures had recommended that over time, once the exchange traded currency derivatives segment stabilizes, OTC markets rules may be changed to align with them. What's being done now is completely the opposite: the bad practices of the OTC market are being brought into the exchange traded market.

Once the draft Indian Financial Code is enacted, such regulations would be struck down when faced with judicial review. The fear of judicial review would strengthen the staff work and process manuals for the regulation making process.

### Conclusion

Rupee-cash settled currency futures are the simplest imaginable financial product. After protracted delays, trading began in a small way in 2008. It was expected that we would make progress. Instead, we have steadily moved in the opposite direction. The damage to the exchange traded market from 2013 onwards is not a bunch of small accidents. Deeper institutional change is required in order to break the barriers to progress.

### The curious case of the MCA: A live example that illuminates the Rajan critique of FSLRC

by Pratik Datta.

So deeply entrenched is judicial review in the modern legal system, that at times, the most learned among us tend to take it for granted, overlooking the sheer time and effort it took to reach here. Starting from the fields of Runnymede in 1215, we have come a long way in understanding the importance of judicial review as a fundamental pillar of a liberal democracy.

India has moved substantially in the direction of creating regulators. Parliament has delegated enormous powers to unelected officers to write subordinate legislation, conduct investigations, and impose sanctions for violations of such subordinate legislations. Judicial review of such regulatory actions come in two kinds:
1. Orders written by some regulators can be challenged before a specialised tribunal. For example, SEBI's orders can be challenged before SAT; TRAI's orders can be challenged before TDSAT; CERC's or SERC's orders can be challenged before APTEL; AERA's order can be challenged before AERAAT. The establishment of specialised tribunals is not, as yet, complete. No designated tribunal has been empowered to review decisions passed by some other regulators, like RBI, IRDA, PFRDA. Their decisions can theoretically be challenged in writ jurisdiction of High Courts.
2. A subordinate legislation issued by the regulator can be struck down for being ultra vires its parent statute or the Constitution, meaning that it is beyond the scope of, or contrary to, the provisions of that parent statute or the Constitution. As of today, none of the specialised tribunals have been empowered to review the vires of the subordinate legislations issued by the regulators. Only a High Court or the Supreme Court in writ jurisdiction can look into the vires of subordinate legislation.

### A new debate on judicial review

The FSLRC recommended that for the financial sector, there should be a Financial Sector Appellate Tribunal (FSAT). The FSAT will not only have jurisdiction to review all decisions passed by the financial regulators, but can also strike down subordinate legislation (regulations) if they are ultra vires the parent statute. Last week, the RBI Governor Raghuram Rajan expressed grave concerns about this particular power of judicial review of FSAT. He argued about the danger of excessive legal oversight':
So long as the Tribunal only questions administrative decisions such as the size and proportionality of penalties, I do not see a problem. But if it goes beyond, and starts entertaining questions about policy, the functioning of a regulator like the RBI, which has to constantly make judgments intended to minimize systemic risk, will be greatly impaired.
In order to illustrate the questions at stake, a fascinating story is shaping up with circulars issued by the Ministry of Company Affairs. The curious case of the MCA circulars shows us how critical judicial review is, to the working of democracy, and why the judiciary must proactively ensure government agencies operate within the framework of parliamentary law.

### Does MCA administer the Companies Act, 2013?

The Companies Act, 1956 was recently replaced by the Companies Act, 2013. Within the Central Government, the administration of the Companies Act, 1956, had been entrusted with the MCA through the Government of India (Allocation of Business) Rules, 1961. Interestingly, these Rules have not yet been updated to include administration of Companies Act, 2013 under the purview of MCA. For the purposes of this post, we will assume that this problem did not exist, and that MCA does have the authority to administer the Companies Act, 2013.

### How things worked under the Companies Act, 1956

Under the Companies Act, 1956, there was no provision empowering the MCA to remove difficulties in implementing the Act. Section 642 allowed the MCA to only make rules, but such rules needed to be laid before each House of Parliament.

In jurisdictions with weak rule of law, the executive's tendency to overreach remains unchecked. In the absence of a specific provision empowering MCA to "remove difficulties", the MCA resorted to issuing circulars' for clarificatory purposes. However, since these circulars were beyond the prescribed statutory procedure, MCA did not have to comply with the requirement of laying them before the Parliament. Consequently, the scope of circulars kept on expanding over time and varied in their format. Many circulars have been issued in rem while some are in personam in the nature of a letter. Some of them are signed, some have only a designation but no signature, and some have neither designation nor signature. Moreover, some circulars have been used to issue schemes and guidelines. Therefore, under Companies Act, 1956, without any specific power to issue circulars, the MCA ended up creating a maze of subordinate instruments: circulars, guidelines, schemes. This was going beyond the authority given to the MCA by Parliament.

### Executive discretion under the Companies Act, 2013

Like its predecessor, the Companies Act, 2013, gives MCA the power to make rules (s. 469) but does not specifically empower MCA to issue circulars. But unlike its predecessor, it has a new feature. It empowers MCA to issue "orders" (s. 470) to remove difficulties in implementing the Act. Such orders can be made only for the first five years after the commencement of the Act. Moreover, like the rules, these orders also need to be laid before each House of the Paliament.

During the drafting phase of the Companies Act, 2013, various suggestions were made to modify certain provisions in the Companies Bill, 2011. In many instances, the MCA argued that clarificatory issues can be addressed by draft clause 470 (removal of difficulty clause) which appeared in the Bill. The details can be found in the Standing Committee Report (2011-12). Therefore, it can be safely assumed that the MCA knows that it should issue clarifications to the Companies Act, 2013 through orders under section 470 of the Act and not through clarificatory circulars.

### So how is MCA issuing clarifications?

The MCA website categorises four types of legal instruments under the Companies Act, 2013 in the following sequence:

• Rules
• Circulars
• Orders

So how are these instruments being used? As of today, 5 orders under section 470 have been published in the official gazette and are available on the MCA website (here, here, here, here and here) . These have been issued by officers of the rank of Joint Secretary.

MCA has also issued 20 circulars (as on the date of this post) under the Companies Act, 2013, as available on the MCA website. 8 of these claim to clarify provisions of the Companies Act, 2013 (for example, see here and here). These have been issued by officers of Deputy Director or Assistant Director ranks.

### Doing indirectly, what cannot be done directly

Through circulars issued by subordinate officers, MCA has tried to achieve what should have been done only through orders under section 470 by senior officers. The Supreme Court has time and again held that what cannot be done directly, cannot be done indirectly. The MCA cannot directly notify an order. Such an order must be laid before the Parliament. But a circular, being beyond the scope of the Act, is not bound by any such constraints. And so, continuing with its earlier behaviour under the Companies Act, 1956, the MCA has been interpreting provisions of the Companies Act, 2013, through circulars instead of issuing orders under section 470 of the Act. This is clearly an indirect way of achieving what MCA could not otherwise achieve directly - giving its own interpretation to provisions of a Parliamentary legislation (the Companies Act, 2013) without putting it through Parliamentary scrutiny.

Note that this act on the part of MCA is not an administrative decision' in personam. It is a legislative act in rem. Rajan believes that such acts should not be reviewed by a Tribunal. Let's think about the consequences that would flow from this.

On a related note, see Difficulties with special guidance and general guidance in the IFC by Burman et. al., Ajay Shah's blog, 11 February 2014.

### What if we did as Rajan says

NCLT is the proposed tribunal under Companies Act, 2013. Let us assume that NCLT has become operational and that it has limited power of judicial review as proposed by Rajan - it cannot strike down subordinate legislations passed by MCA as ultra vires the Companies Act, 2013 ("the Rajan proposal"). Let us further assume that a case pending before the NCLT hinges on interpretation of a particular provision of the Companies Act, 2013. One party is relying upon the interpretation of that provision by a MCA circular. The other party points out that such circulars cannot be passed by MCA under the Companies Act, 2013 (as argued above) and therefore such an interpretation is not binding on NCLT. Going by the Rajan proposal, NCLT cannot question the legal capacity of MCA to pass such a circular. Therefore, NCLT will be bound by the interpretation given by MCA even though under Companies Act, 2013, MCA is not even allowed to interpret the Act by such a circular. This will be a travesty of justice. The Rajan proposal will only perpetuate an illegality.

Under such circumstances, the only option left before the aggrieved party will be to file a parallel writ proceeding before a High Court challenging the vires of the particular circular. Therefore, now for the same cause of action, there will be two parallel proceedings: one in NCLT and one in the High Court. Other than multiplying litigations and costs, it will also generate coordination problems between the two judicial bodies. If the High Court stays the proceedings before NCLT till it disposes off the writ petition, the disposal of the matter by NCLT will also be delayed. This will adversely affect the pendency statistic of NCLT as well as the High Court.

NCLT is likely to accumulate knowledge and organisational capital in the field, as the Securities Appellate Tribunal has in the field of securities. It is likely to do better in thinking about the substance of a regulation when compared with the High Court. The fear of judicial review that Rajan expresses is ironically asking that the matter be heard at a court less capable of understanding the merits of the case.

### FSLRC gets it right

Now, in our hypothetical example, let us substitute the Rajan proposal with the FSLRC proposal of giving the tribunal the power to strike down subordinate legislations as ultra vires the parent statute. In this case, instead of filing a fresh writ petition in a High Court, the aggrieved party can move an application in the same matter before NCLT praying for quashing of the circular. Now, the NCLT can strike down the MCA circular as ultra vires the Companies Act, 2013. This will save time and costs for the High Court, the NCLT as well as the litigants. No coordination problem will crop up between the High Court and NCLT. NCLT will be able to dispose off the case faster without having to wait for the High Court's decision. This will cause the least judicial delay.

The Financial Sector Appellate Tribunal (FSAT), envisioned by FSLRC, will be a specialised court working in the field of finance. It will build up organisational capital and knowledge of the field. This will help produce better decisions.

More generally, the precision of drafting of the Indian Financial Code (IFC) is quite different from the Companies Act of 1956 or 2013. The behaviour of MCA, documented above, would not be possible under the IFC.

### Conclusion

After extensive deliberations with experts from the field of finance, economics and law, the FSLRC noted that as per the constitutional scheme, the Supreme Court and the High Courts enjoy the power of judicial review. But to cut down on delay and to ease the pressure on the High Courts, it is essential that the judicial entity (the FSAT) which has the primary duty to pass judicial orders based on subordinate legislations should also have the power to strike down subordinate legislations ultra vires the parent statute. This is not in derogation to the powers of judicial review of the Supreme Court or High Courts and is compliant with the constitutional scheme. Accordingly, it was recommended that FSAT should have power of judicial review of subordinate legislations passed by the financial regulators. Such a review, although not limited to administrative actions', does not amount to reviewing the policy.

Rajan uses the word policy' but under the rule of law, there is no place for the word policy'. All we must focus upon is the objectives and powers established by Parliament for every public body, and live within these. To allay the misapprehensions in the mind of the RBI Governor, Lord Justice Lawton's observations in Laker Airways case ([1977] Q.B. 643) would be instructive:

Judges have nothing to do with either policy making or the carrying out of policy. Their function is to decide whether a minister has acted within the powers given him by statute or the common law. If he is declared by a court, after due process of law, to have acted outside his powers, he must stop doing what he has done until such time as Parliament gives him the powers he wants. In a case such as this I regard myself as a referee. I can blow my judicial whistle when the ball goes out of play; but when the game restarts I must neither take part in it nor tell the players how to play.

In a few odd matches, the striker may end up hitting the referee and missing the goal. But that is no reason to remove the referee from the game altogether. Similarly, the fear that some day some judge might somehow affect a policy decision should not lead us today to opt for a system where for every cause of action multiple proceedings are filed resulting in higher case pendency and further judicial delay.

Greed for more power is an inborn urge. The executive always has a temptation to grab more power than is conferred by Parliament. Wisdom in public administration lies in being aware of these urges and controlling them. The way forward for Indian democracy lies in writing precise laws, which define specific objectives and narrow powers for every public body. Once this is done, a potent system of tribunals and courts is required, to ensure that the legislative intent is not transgressed by the executive. We must respect the wisdom of FSLRC, and spurn this and other attempts to achieve unrestricted executive discretion.

## Thursday, June 19, 2014

### Understanding the Handbook that precedes the Indian Financial Code

Raghuram Rajan recently used his bully pulpit to increase the prominence of the draft Indian Financial Code (IFC). In order to help you, gentle reader, figure out the mistakes of his speech, we have released a batch of videos.

The key materials about the IFC are a gentle paper, the report, and the law. The Ministry of Finance and all financial agencies have decided to adopt the Handbook on adoption of governance enhancing and non-legislative elements of the draft Indian Financial Code, through which the gains of IFC are brought forward in time.

The IFC and the Handbook are subtle. For people without the relevant background in public administration, law and public economics, and an understanding of what works and does not work under Indian conditions, a lot of it appears impressionistic and faddish. A substantial increase in skills is required in order to build State capacity, in the form of public agencies that work satisfactorily. To help carry the process forward, we recently hosted a workshop for all financial agencies, and MOF, at NIPFP on this Handbook. In my knowledge, this was the second time in history that senior staff from all financial agencies got together in a two-day workshop: breaking down the silos of Indian finance is the essence of the IFC. All the videos are now on youtube :

1. Inaugural address by the Hon'ble Finance Minister and Dr. Rathin Roy, Director, NIPFP. Link.
2. Regulators as Mini States: A discussion of the rule of law in regulatory governance, and the importance of separation of powers. Link.
3. Framing Regulations (Handbook Chapter 4): An overview of the process by which the Boards of regulatory bodies are to frame regulations. Link.
4. Cost-Benefit Analysis (Handbook Chapter 4): An overview of the cost-benefit analysis that is to be carried out by financial regulators as part of the regulation-making process. Link.
5. Consumer Protection (Handbook Chapter 2 and Chapter 3): An explanation of how consumer protection is to be incorporated into financial regulation. This includes additional protections for retail consumers. Link.
6. Role of Board and Transparency (Handbook Chapter 6 and Chapter 7): A discussion of the critical role of the Board as the apex body within a financial regulator, and the need for transparency in regulation. Link.
7. Approvals, Notices and Investigation (Handbook Chapter 9, Chapter 5 and Chapter 10): A discussion of the some of the executive functions of a financial regulator: granting approvals, issuing notices and conducting investigations. Link.
8. Adjudication and Penalties (Handbook Chapter 11 and Chapter 12): Adjudication and penalties in the context of Indian Financial Regulation, and a practitioner's perspective on the intersection of law, business and regulation. Link.

The full playlist might also be useful.

## Friday, June 13, 2014

### Inflation targeting in India: Lessons from Africa

by Thomas Richardson

The publication of the Urjit Patel Committee report on India's monetary policy framework, in January, elicited a lot of debate among policy economists about the appropriateness and feasibility of inflation targeting - even the flexible sort proposed by Patel et al. - in a developing economy like India. A good deal of the commentary has taken the negative view, arguing that India is not ready for inflation targeting, either because its macroeconomic data is too unreliable, or the role of food in headline inflation is too high, or the monetary transmission mechanism is too poorly understood, or because the real source of inflation lies with administrative policies driving rural wage growth.

These are all valid points, made by sensible, respected economists with a broad view of Indian economic reality. Nevertheless the RBI seems to be moving forward toward some form of the Patel Committee recommendations. Recent Monetary Policy Statements have hewn fairly closely to the committee's recommendations. Is the RBI heading in the wrong direction?

I think not, based in part on my experience working in Africa. Before joining the IMF's New Delhi office, I led the Fund's work in Uganda at a time when many countries in sub-Saharan Africa were reexamining their monetary policy frameworks. The discussion on whether or not inflation targeting is appropriate and feasible for India reminds me strongly of similar debates in Africa. In Africa, as in India, many analysts questioned whether inflation targeting is appropriate, arguing that macroeconomic data are too poor, there is too much food in the headline CPI basket, the transmission mechanism is weakly understood, or that administrative prices are the dominant factor. Sound familiar?

### The evolution of the setting for monetary policy in Africa

For many years, countries in sub-Saharan Africa - frankly, like those elsewhere in the developing world - relied on controlling the money supply to achieve their inflation objectives. (Unless, that is, they maintain a pegged exchange rate, in which case their scope for independent monetary policy was very limited.) In recent years, however, central bankers in a number of developing countries that do have scope for monetary policy have become disenchanted with the use of monetary aggregates as a nominal anchor. Why?

For one thing, the relationship between money and inflation has weakened as inflation has stabilized. The average CPI inflation rate in a sample of 64 emerging market and low income countries fell by half, from 18.6 percent during 1990-2002 to 9.3 percent in 2002-2012, and the volatility around those averages has caome off sharply as well. Although money does still significantly matter for inflation, in cross-country regressions, the coefficient on money growth has declined sharply (IMF (2014b)). Similarly, financial deepening and greater monetization have led to a decline in the velocity of money, while money multipliers have trended upward, reflecting greater interest rate sensitivity stemming from financial inclusion. Innovative payments technologies, such as mobile banking (M-pesa) have played a role by expanding access to finance.

### Sub-Saharan Africa: Inflation and Money Growth

Greater central bank independence and reduced fiscal dominance in Africa have also dented the case for money targeting, which some had previously felt was a way to bolster fiscal discipline. Direct central bank financing of the government budget deficit has declined sharply in Africa, from an average of 12 percent of GDP during 1990-2000, to only about 2 per cent of GDP in 2012.

Similarly, greater exchange rate flexibility in sub-Saharan Africa has enhanced the scope for independent monetary policy. The number of `soft peg' regimes in Africa fell from 28 in 2007 to 11 in 2012, allowing monetary authorities to pay greater attention to fighting inflation (IMF (2014b)). At the same time, a number of countries (such as Ghana, Kenya and Uganda) took steps to open their capital accounts, which enhanced the role of interest rates in their monetary policy frameworks

### If not money, what do you target?

Since the use of a monetary aggregate as nominal anchor is losing favor, and exchange rate pegs generate well-known risks, what is a central banker to do? The main alternative is some form of inflation targeting. Long used by many advanced economies - and without getting into the debate over whether monetary policy should aim at both low inflation and financial stability (Lagarde (2014)) - inflation targeting has much to commend it. But aren't there preconditions which need to be satisfied before an emerging market or developing country "qualifies" for inflation targeting?

The early literature on inflation targeting in advanced countries emphasised the concept of preconditions - like central bank operational independence, the absence of fiscal dominance, deep financial markets, and a well-understood monetary transmission mechanism. Yet some research at the IMF suggests that a number of the countries which successfully adopted inflation targeting didn't initially meet all, or even many, of these preconditions (Freedman and Otker-Robe (2011)). In fact, the preconditions were often met after a country adopted inflation targeting, suggesting that the direction of causality could run the other way. Maybe countries adopting inflation targeting are then strongly motivated to put in place supportive institutions, such as more robust central bank independence, better and more frequent macroeconomic data, financial development, and enhanced analytical and modeling capacity for the monetary authorities. In my view that is what we are seeing in Africa.

A recent IMF conference in Maputo, Mozambique, emphasised the progress African countries have made over the past decade (see). Sound macroeconomic policies have, despite the global financial crisis, permitted Africa to become the second fastest growing region (after Asia), and have set the stage for continued growth over the coming years (Sayeh (2014)). But with growth and financial deepening and sophistication have come demands for more efficient and transparent monetary policy frameworks.

South Africa and Ghana have had formal inflation targeting regimes for several years, and more recently Uganda has joined them. Their inflation performance has been somewhat mixed, and it would not be correct to say that inflation targeting is becoming the norm on the continent. Nevertheless, a number of other countries, particularly in East and Southern Africa, have taken steps to introduce elements of inflation targeting into their monetary policy frameworks as well (IMF (2014b)). Kenya, Mozambique, Rwanda, Tanzania and Zambia all clearly announce a forward inflation objective, and outline the glide path to achieve it. They rely principally on indirect methods of liquidity management, including repos/reverse repos and open market operations. Their Monetary Policy Committees meet regularly, holding press conferences at which the Governor announces their policy rates and surrounding corridors with the aim of anchoring market expectations. These practices bear strong similarities to those of inflation targeters from other regions (see IMF (2014a) for case studies on the Dominican Republic and Moldova).

Has inflation targeting worked in Africa? Macroeconomic outcomes are not perfect, but the region as a whole is growing rapidly. There is a robust consensus around low and stable inflation, and the various country authorities' ability to manage volatility (including that stemming from their largely open capital accounts) has improved. It would be hard to argue that the macroeconomic risks and challenges these countries face stem from their choice of inflation targeting as a monetary policy framework.

India is certainly not Africa, and the Indian authorities will have to find their own way with this debate. Yet there are similarities, may be lessons, for India in the African experience. Our understanding of the monetary transmission mechanism in India is relatively poor, and that should not be discounted (an important point noted in Mishra and Montiel (2012)). Macroeconomic data quality could be enhanced. At least on paper an element of fiscal dominance can be said to persist. And while the RBI has a fair degree of de facto independence, its de jure independence is less robust does not. But markets do crave a clear and consistent monetary policy framework, and the gradual opening of India's capital account will only make that more important over time. The adoption of some form of inflation targeting by so many countries in sub-Saharan Africa implies that India can, if it wants, adopt an appropriate form of inflation targeting as well.

Freedman, Charles, and Inci Otker-Robe (2011), "Important Elements for Inflation Targeting in Emerging Economies," IMF Working Paper WP/10/113.

IMF (2014b), "Improving Monetary Policy Frameworks," Chapter 3 of Sub-Saharan Africa Regional Econoimc Outlook: Fostering Durable and Inclusive Growth, April 2014.

Lagarde, Christine (2014), "Navigating Monetary Policy in the New Normal," Speech given at the ECB Forum on Central Banking, May 25, 2014.

Mishra, Prachi, and Peter Montiel (2012), "How Effective is Monetary Transmission in Low-Income Countries? A Survey of the Empirical Evidence,"IMF Working Paper WP/12/143.

Sayeh, Antoinette (2014), "For Africa, Good Policies Bring Good Prospects," iMFdirect blogpost, April 24, 2014.