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Raghuram G. Rajan
Says More…

This week in Say More, PS talks with Raghuram G. Rajan, former governor of the Reserve Bank of India, Professor of Finance at the University of Chicago Booth School of Business, and the author, most recently, of Monetary Policy and Its Unintended Consequences.

Project Syndicate: You have criticized monetary policymakers’ response to the 2008 global economic crisis, which had profound spillover effects to which they “paid insufficient heed.” In your new book, Monetary Policy and Its Unintended Consequences, you offer a “sketch of a model” showing how monetary-policy spillovers “cause leveraging, booms, and eventually busts in capital-receiving countries.” How would you summarize that model?

Raghuram G. Rajan: Monetary policy is a blunt tool, as many have recognized. With an active financial sector, it also becomes a tool with uncertain consequences, since the financial sector can react to extreme monetary-policy settings in unpredictable – and undesirable – ways. For example, a sustained policy of low interest rates engenders risk-taking and leveraging by the financial sector, leaving it exposed to losses when the policy setting changes.

This has happened so many times that no one can claim to be surprised anymore. Yet monetary authorities sometimes act as if someone else – bank management, regulators, supervisors – is responsible for dealing with the spillovers from their policies. A scapegoat is always found, allowing central bankers to avoid accountability. The US Federal Reserve’s Barr Report on the demise of Silicon Valley Bank is a case in point. The report flags the usual suspects, beginning with the bank’s senior management. But there is no hint that Fed policy – for instance, quantitative easing and its subsequent rollback – might have contributed. This wasn’t even included in the terms of reference for the inquiry!