What Global Crisis Means for India
While India must eventually liberalise its financial sector, we must err on the side of caution.
The current economic crisis, which originated in the financial sector of the United States, is being transmitted to the countries around the world through three principal channels. First, it has directly impacted the balance sheets of financial institutions that invested in the mortgage-backed securities and their derivatives, which turned toxic following large-scale defaults in the US housing market. In Asia, Korean banks suffered the most, requiring a $130 billion bailout package.
Second, the crisis has created a liquidity crunch. The US firms seeking liquid resources massively withdrew their investments in stocks and bonds in other countries. The resulting decline in the prices of bonds and stocks also led local investors to pull back from the market.
Both factors contributed to the tightening of credit. Reinforcing these factors was the return of the local firms, which had previously borrowed in foreign markets, to the domestic market. These firms saw the foreign markets suddenly dry up.