Lessons from outperformance in the Indian financial sector

We examine predictions and outcomes for the Indian financial sector in the pandemic period to build a case for re-examining our understanding of the sector. This can improve risk perceptions and policy design. Reasons for outperformance include reforms that led to a better balance between discretion from public sector dominance and the excess volatility of market-based systems. This diversity, as well as divergence of the Indian credit cycle from the global credit cycle, was protective given the sustained external risks. It put the Indian financial sector in a position to support the domestic recovery, despite global quantitative tightening. There are lessons from India's more broad-based regulation for the narrow bank-based regulation in advanced economies (AEs), which is increasing global financial fragilities and risks. It is also increasing the share of markets in the AE financial sector so much that diversity is falling. Public sector banks contribute to the diversity of the Indian financial sector. Non-bank financial companies reach the unbanked sectors and improve financial inclusion. Regulatory excesses and absence of liquidity support contributed to persistence of financial stress. Policy lessons are for countries to avoid policy over-reaction, aim for diversity, different types of exposures, uniformity in financial sector regulation, with appropriate balance between discipline and support, in order to reduce risks.