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Second, India is now paying the price for a government that since has not delivered any reforms. Third—and most important—the Indian state, led by its political-bureaucratic elite, remains unreformed. Indeed, state institutions have gotten worse at both the national and state levels.
According to Arun Shourie, a former minister and leading Indian commentator, India's race backward as a state "hollowed out by termites" is not compatible with its race forward led by urban professionals in the private sector; the former will drag the latter backward.
That remains to be seen. But the upshot is that much-needed market reforms cannot continue to skirt reform of the state itself.
Politically, that is the hardest nut to crack. How We Got Here. The book first summarizes elegantly anomalies and puzzles, giving a snapshot of the symptoms of the transformation, including the famous interest rate conundrum: falling long-term interest rates in the United States even as monetary policy was being tightened.
It explores these symptoms' underlying causes—dramatic change in the magnitude and channels of interaction among industrial and emerging market countries, and enormous expansion in the operations of the financial markets. These in turn have a significant bearing on how we should assess market developments, investment decisions, and policy responses. The author argues convincingly that we should not ignore the anomalies and the information they contain, because they highlight underlying changes in risk and return patterns.
The book offers a systematic framework for recognizing and understanding anomalies and turning points, and explains why it is difficult to look for signals within the noise. The author draws on behavioral science disciplines and neuroscience to explain our general inability to internalize rare events, despite their extreme impact.
This analysis illustrates well the basis for the Keynesian dictum that "the difficulty lies not so much in developing new ideas as in escaping from old ones. El-Erian uses this framework to explore the general realignment of the global system: it is no longer enough to assess developments in the major industrial economies; the role of emerging markets is also crucial.
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Moreover, the fundamentals are affected by unprecedented cross-border capital flows, and proliferation of new products and instruments, new financial market participants, and new pools of capital such as sovereign wealth funds. In short, there are more diversified sources of global activity and a wider array of investable funds. He illustrates actual and prospective changes in the drivers of key variables such as growth, trade, price formation, and capital flows that will affect the approaches taken by market participants. He takes the reader step by step through a disciplined asset allocation process.
He argues that investors have to assume greater responsibility for the management of risk than in the past and discusses the need for frequent monitoring of a portfolio's sensitivity to key market risk factors.
There is an enjoyable discussion of tail risks and "Pascal's wager"—the small probability of an event that has enormous consequences—and its implications for buying tail insurance. Regarding policy, the author argues that transformations weaken the effectiveness of traditional approaches and instruments, and erode the informational content of traditional indicators.
This points to needed changes to traditional approaches. He presents a concrete action plan for multilateral institutions—such as the IMF—that would strengthen their role in a sustainable way. Given the transformation under way and the uncertainties that "alter in unthinkable ways the configurations of risks and returns," the book provides a powerful analytical framework for charting a course through the thicket of recent and ongoing developments.
The proof of the pudding is that the book came out in early and its predictions have proven all too true. The author warned of the danger of increasing risk through unprecedented leveraging and deregulation, which in turn reflected the scramble for high returns, and the risk of serious market accidents and dislocations as a result of investors' and intermediaries' unsustainable behavior.
The speed with which the crisis has deepened and spread, particularly since the Lehman bankruptcy, testifies to the inter-relationships analyzed in this book, as does the recognition that the depth of the global recession will be determined by the extent to which the banking sectors and financial markets stabilize in the near term.
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The book also clearly anticipated the limitations of policymakers in such an environment and the compounding influence of potential policy mistakes. In short, the book should be required reading in these unprecedented times to understand where we are, how we got here, and where we might be headed. Manmohan S. Share This. Free Email Notification Receive emails when we post new items of interest to you.
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