[Jan] Disconnect between equity markets & real economic activity Flashcards
What’s the issue?
1) In the bi-annual “Financial Stability Report” published by RBI, the RBI Governor has said that there is a disconnect between the “financial markets” and “real economy” which may cause a risk for the “financial stability” which is an important objective of RBI in addition to the objectives of “controlling inflation” and “economic growth”
2) Disconnect between the “financial markets” and “real economy”:
Explanation: Suppose the steel sector in our economy…………..the growth in output of steel is normal and the future prospect of demand of steel is reasonably good because other sectors like auto industries, construction is doing good in terms of demand. And this growth in steel output/sector will lead to increase in valuation of the company and the share prices will also increase on the share market.
But if the growth prospect of the steel sector is just normal and there is too much increase in the share prices (valuation) of the steel companies may be because of too much foreign money inflow is happening in the share market or depositors of India are moving their money from bank deposits to share market as the interest rate is very low in bank fixed deposits then we will say that there is a DISCONNECT BETWEEN THE REAL ECONOMY (activity on ground) AND THE FINANCIAL MARKETS and there can be possibility of BUBBLE in the share market (which may burst in future).
And say suppose because of the higher valuation of the share prices………….the creditors/bankers also put more money (gave more loan) into the companies in the form of DEBT/BONDS/LOANS then if in future the foreigners start withdrawing their money or any incident (may be political or any other) happens then the share market may crash (because it is not in sync with real activity) and then the DEBT of the company will be huge as compared to the share/equity valuation and the companies will not be able to REPAY banks (or intermediaries like NBFCs) loan and will start defaulting on their repayments which may cause a crisis in the BANKING SECTOR leading to FINANCIAL INSTABILITY.
[IF THE GROWTH PROSPECT OF THE STEEL SECTOR IS JUST NORMAL & THERE IS TOO MUCH INCREASE IN SHARE PRICES (VALUATION) OF STEEL COMPANIES -> BASICALLY ACHANAK BOOM MADHE ALI GOSHT ANI DEMAND VADHLI ->MAG INVESTMENT VADHEL -> PAN BHAAV UTRATIL PAN KARAN,GROWTH PROSPECTS ARE JUST NORMAL( 1ST LINE) -> MADHLYA PERIOD MADHE JE ASTA TYALA MHANAYACHA Disconnect between equity markets & real economic activity ]
