THE KOREAN CONUNDRUM

The Korean Peninsula is no stranger to tensions. But the ultimatum given by North Korea to the South to either stop its propaganda broadcasts across the demilitarised zone (DMZ) or face war has raised them to their highest level in many years. The Koreas are still technically at war, as the 1950-53 Korean War ended with an armistice agreement and not a proper ceasefire. Since then there have been several incidents of border violence, and leaders on both sides have occasionally exchanged high-decibel rhetoric. The latest flare-up is particularly menacing because of at least two factors — the growing unpredictability of the North Korean regime under Kim Jong-un, and the relatively more assertive response by South Korea to provocations. The North is going through several internal challenges. At least 70 top-level government officials, including the Vice-Premier, were reportedly executed since Mr. Kim took power in 2011, indicating that the regime is using brute force to sustain itself and silence dissent. Second, the North Korean state media have confirmed that the country is facing the “worst drought” in a century. This spells a major economic crisis. Whipping up tensions with the South could be a deliberate strategy on the part of Mr. Kim in order to divert attention from crucial internal problems. The latest crisis started with a landmine blast in the DMZ in which two South Korean soldiers were injured. Seoul retaliated by resuming anti-North propaganda, which led to shelling from the North and counter-artillery fire from the South.

While the two countries have not had a full-scale armed conflict since 1953, tensions on the peninsula have remained high, particularly after the North went nuclear in 2006. With the U.S. remaining committed to “defending” South Korea, any major confrontation between the North and the South could potentially lead to a nuclear conflagration. South Korea’s dilemma is understandable. Dealing with an erratic dictatorship will never be easy. But responding to provocations from the North in the same coin is not going to serve its interests. Seoul should rather regain its rational restraint, and use diplomatic means to tone down tensions. It could reach out to China, the only major ally of the North, to put pressure on Pyongyang. If Beijing is serious about taking a more proactive regional leadership role, North Korea will be the best starting point. The recent Iran nuclear deal shows that even complicated international issues could be resolved through imaginative diplomacy. But whether the Koreas and their respective backers have the will to earnestly pursue a diplomatic solution, is the big question.

THE CRASH OF THE MARKETS

Market regulators and even governments have very few options when financial markets go into the kind of panic-driven free fall as witnessed on Monday. The shock waves triggered by an over 9 per cent fall in Chinese stocks hit capital and currency markets worldwide. India was no exception to the global sell-off, with the BSE Sensex shedding over 1,624 points — nearly 6 per cent — and the rupee tumbling at one point to Rs.66.60 against the U.S. dollar, its lowest level since 2013. The immediate task for the market regulator, the Securities and Exchange Board of India, will be to put in place measures to ensure that there are no major settlement defaults, which can trigger a systemic collapse. Other than that there is little it can, or indeed should do, to prevent the current re-rating of asset prices in the market running its course. On the currency front, Reserve Bank of India Governor Raghuram Rajan has given out the assurance that the central bank has sufficient foreign currency reserves — around $380 billion — to dampen any major volatility of the rupee. However, it can only flatten the trajectory of any fall, not reverse it. Besides, it needs to keep the powder dry to tackle any further devaluation of the yuan, which China might be forced to do if growth continues to be slow. After all, Monday’s global sell-off was prompted by poor industrial output numbers, only confirming the fears of global investors that China’s ‘managed slowdown’ was proving less manageable than it had let on.

For India, the Chinese collapse might actually provide an opportunity. As Dr. Rajan has pointed out, India has a low current account deficit (CAD), the fiscal deficit is manageable, inflation is moderating and short-term foreign currency liabilities are low. Despite a downward revision by global rating agencies in the growth forecast, growth is still fairly robust compared to other major economies. The fall of the rupee has been largely offset by a slump in crude prices, which should further ease pressure on the CAD. A cheaper rupee will also help revive exports. Progress on key reform measures such as the GST and Land Bills, and a step-up in infrastructure spending, could boost industry. A strategically timed interest rate cut can help revive consumer and investor sentiment. For that to happen, the Centre needs to demonstrate greater political skills in pushing its reforms agenda, and speedier reflexes than it has shown so far. A case in point is the delayed PSU disinvestment programme. Monday’s offer for sale of 10 per cent of shares in Indian Oil Corporation barely scraped through amidst the bloodbath. Future asset sales will have to be in a markedly more bearish market, leading to lower realisations.

BANKING THE UNBANKED

For the first time in India’s banking sector, the Reserve Bank of India is giving out differentiated banking licences. The in-principle go-ahead given on Wednesday to 11 ‘payments banks’ is, by the RBI’s own admission, an experiment — the latest in a long series of attempts to take banks to the unbanked. The push towards financial inclusion started with the nationalisation of 14 commercial banks in July 1969 through the Banking Companies (Acquisition and Transfer of Undertakings) Ordinance, 1969. Then a second round came in 1980, involving six more commercial banks. With a view to economically mainstreaming rural areas, the Indira Gandhi government established regional rural banks by means of an ordinance in 1975. But even 45 years later, all these attempts have had little success in expanding banking coverage to the desired extent and scale: only 7 per cent of India’s villages have a branch of a rural or commercial bank. The policymakers seem now to have finally understood that banking inclusion cannot be just one among many businesses of a bank: it has to be the core business. The licensing condition that puts a Rs. 1-lakh cap on deposits that payments banks can receive from customers defines the market they will target — primarily the unbanked population. The RBI expects payments banks to target migrant labourers and the self-employed, besides low-income households, offering low-cost savings accounts and remittance services so that those who now transact only in cash can take their first step into the formal banking system.

Going by the international experience, this innovation of basically transforming a citizen’s mobile phone into a stripped-down bank branch has a greater chance of success. The initiative takes Vodafone’s M-Pesa closer to the version that is working successfully in Kenya, where payments on this product constituted about 30 per cent of the country’s GDP in 2014. Similar products in India so far were essentially mobile applications dependent on tie-ups with banks to make cash withdrawals and interest payments. The licence frees these companies to provide such services on their own. The greater operational flexibility will enable them to draw in more customers. Their operations could now become more cost-effective as the licence-holders will be banks in their own right, albeit without the provision to extend loans to individuals. If they indeed succeed in becoming the target market’s chosen mode of financial transactions, this technological solution could also turn out to be a major step in achieving a truly cashless economy. So, while this is a bold move, and underscores that the RBI is anything but conservative, it is ironical too that the cycle of experiments that started with the 1969 round of nationalisation has now come full circle. The responsibility of financial inclusion is now almost entirely entrusted to the private sector.