—By Charu Latha
Black swan event is commonly used for the events that are difficult or quite impossible to predict. The black swan event has three attributes. First, these events are quite a rare occurrence and are beyond the regular predictions. Second, they have a major impact on the social, cultural, or financial aspects of the world. Third, the event might be unpredictable, but after the event has occurred, there will be reasons which will explain its probability of occurrence.
The theory of black swan event was developed in 2001 by Nassim Nicholas Taleb, a Lebanese-American Statistics Professor. Till the 17th century, until an explorer discovered that black swans existed, the world knew and assumed that only white swans existed. It was this discovery and the unpredictability of spotting a black swan that exposed that human understanding and predictions are limited.
Why was it in the news?
In the article ‘Capital Flows at Risk: India’s Experience’, RBI Deputy Governor Michael Debabrata Patra in his latest article, has warned that there could be an outflow of about $100 billion (around Rs.7,80,000 crore) from India in case of a ‘black swan’ event. There is a 5 per cent possibility of portfolio outflows of the size of 3.2 per cent of the GDP from India in a year. In such a scenario, it is proposed that there should be immediate maintenance of liquid reserves amidst the pandemic, global tensions, supply chain disruptions, and increased prices to handle the unexpected event which could occur. According to the study by RBI, the debt flows slowed down right from the pandemic, and foreign portfolio investors also withdrew. The pull factors, growth potential, and the financial sector condition in India encouraged capital inflows, while the push factors, global risk aversion, and the pandemic lead to capital outflows.
Impact on the Indian Economy
Singapore and USA are the countries with the largest equity flows to India. With the rising inflation and harm caused by the Russia- Ukraine war, US Federal Reserve is aiming to implement strict monetary policy and raise interest rates to reduce inflation. This could cause capital outflows. Foreign investors have already withdrawn around $26 billion from the Indian markets since January 2022, resulting in decline in foreign exchange reserves as well as decline in value of the Indian rupee.
Capital inflows to India are vulnerable to global risk sentiment and spillover effects. To reduce the impact of capital outflows on the Indian economy, it is important to increase the use of alternative sources of energy as the majority of the Indian import expenditure consists of crude oil. It is important to improve the international reserves and the financial infrastructure and make it fool-proof such that it is not affected by global financial risks. Promoting make in India, encouraging local manufacturing, and utilising the service sector appropriately can also help tackle a black swan event.
The fall of the Soviet Union, 2008 global financial crisis, and terrorist attack in the US (9/11 attacks) are some of the black swan events which occurred in the past. With the experience of the spillover effects of the previous crises, the biggest factor influencing capital outflows in most countries is risk aversion. In these kinds of unforeseen circumstances, only tight monetary and fiscal policies and implementing structural reforms may not be the solution. The government has to maintain macroeconomic stability and be financially prepared for a black swan event.
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