He was speaking at the 'Governors' seminar on a shared responsibility: fixing global payments Imbalances', at the ongoing 39th annual meeting of the board of governors of Asian Development Bank.
"As far as ramifications of global imbalances for the Indian economy is concerned, the economy would be affected through several channels but it is likely that in case the world economy slows down, India is likely to be less vulnerable as the Indian growth story is driven by domestic demand, than that of other fast growing Asian economies driven mainly by external demand," he pointed out.
"India does not depend on the international capital market for financing the fiscal deficit. However, the fiscal position of the government could be indirectly impacted. There could also be a spill over effect of global developments on domestic interest rates. It could also pose challenges for reserve management as currency values may fluctuate violently," he observed.
The Finance Minister expressed concern that any abrupt adjustment in global imbalances might affect corporates, banks and households though the impact might be less than some other Asian economies.
Corporates that have borrowed at variable rates could suffer more compared to those which have taken loans on a fixed rate basis. "Corporates, which have hedged against currency and interest rate risks may escape the adverse effects," he added.
"Although banks in India have their deposit base predominantly in rupees and their investment in foreign currency stocks is not large, they have been financing investment in assets, home loans and the retail market as well as equities.
Like in many emerging market economies (EMEs), asset prices have risen sharply in India too. Should there be a reversal of capital flows, asset prices will decline sharply exposing banks to credit risk," he noted.
"If we look at any macroeconomic indicator which contributes towards global imbalance, we would find that the role of India in perpetuating the global imbalance is minimal, not only in the present circumstances but also in near future," he said and pointed out that though India registered modest current account surpluses as compared to other EMEs between 2001-02 and 2003-04, this was more of a reflection of phase of business cycle both in India and abroad.
With the turnaround in the business cycle led by rising oil prices, India has registered a current account deficit in the last two years. "In fact, going by the current indication and the projections of the Tenth Five Year Plan, India's current account position is likely to remain in the deficit in the near future," he admitted.
He said that generally current account surplus accounted for a considerable proportion of reserve accumulation in most of the Asian EMEs and Japan during 2000-05. For India, current account surplus has been a minor source of reserve protection. "In our case, capital flows, as opposed to current account surpluses, played an increasingly important role in the accumulation of reserves," he explained.
"On our part, we feel that our approach aimed at exchange rate flexibility within the ambit of market determined exchange rate arrangement along with market interventions essentially to manage volatility and ebb in capital flows seems to have served us well," Chidambaram said.
The exchange rate has been quite flexible in the recent years and this has been useful for India as it has given good market signal. Recent international research on viable exchange rate strategies in emerging markets has lent considerable support to exchange rate policy followed by India.
India, he said, has been following policies, which are supportive of orderly adjustments in the global imbalance. "There is no reason to expect any change in the basic framework of our policies which have served us well both in terms of growth based on efficient use of capital and stability assured by sound macro-economic policies.
He emphasised the imperative need for a cooperative approach to sustain the recovery process and to correct the global imbalances in an orderly manner.
Referring to the current global initiatives to correct global imbalances, he said the communiqué issued by IMFC a couple of weeks ago highlighted that action for
orderly medium-term resolution of global imbalances is a shared responsibility and it would bring greater benefit to members and the international community than by actions taken individually.
Listing out the five key elements of the strategy towards orderly resolution of the global imbalance, Chidambaran said that the global integration has provided immense benefits to Asian economies and, in a process, served the global economy well. India has contributed by providing services to the global economy at a highly competitive rate. India has benefited in terms of receiving large remittances from non-resident Indians.
"We have to address the global imbalance in such a manner so that the benefits of global integration continue in an uninterrupted fashion. Clearly, Asia has an important role to play in conjunction with other countries in the process of unwinding of global imbalance," he observed.