Regulators should ensure that markets continue to function without any disruption

As the Covid-19 pandemic takes a toll on global financial markets, causing severe erosion of investor wealth, regulators across the globe are leaving no stone unturned to assuage sentiments and stem the decline. While this may be an uphill task given the open-ended nature of the problem, the immediate concern of Indian regulators should be to prevent a settlement crisis and to ensure adequate liquidity to market participants. Global equity markets have been in a tail-spin since the second half of February, when it became apparent that the Covid-19 cases cannot be contained within a handful of countries. Most equity benchmarks in the US, Europe and Asia have declined between 20 and 30 per cent.

While market declines are par for the course, the swiftness of the decline is a matter of great concern, due to the cascading impact it can have on credit in the economy and growth in general. With over ₹11 trillion of assets being wiped out already on Dalal Street, the capital available to fund consumption or growth shrinks to that extent. The bigger worry in Indian markets is the spectre of payment defaults since a large part of trading is through leverage. With traders facing large losses due to the incessant decline over the past three weeks, many would be facing considerable difficulty in settling the mark-to-market losses. Also, non-banking finance companies which have lent against shares may have to liquidate the shares deposited with them as collateral to make good the shortfall caused by the decline. It is therefore important that the RBI ensures that there is adequate liquidity available with the lenders. The RBI has been taking a few steps to contain volatility such as announcing a six-month US dollar sell/buy swap on Thursday, aimed at providing liquidity to the forex market. The central bank has also been selling the dollar in recent weeks to curb the volatility in rupee prices.

The RBI has not cut rates yet, but it is not clear if rate cuts really help in such phases. Recent rate cuts by the Federal Reserve and the ECB have, in fact, exacerbated the decline. Given that the pandemic is spreading and that the full impact of the virus on the economy is not yet known, it would be good if the regulators do not exhaust their arsenal at one go. The SEBI has announced that it is closely monitoring the situation and that the margins collected by clearing corporations are sufficient to ensure settlement. It would be best to continue this wait-and-watch approach. The Centre could take some policy and fiscal steps to avert a severe economic slowdown.

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