The Tarapore-2 Report on capital account convertibility (Tarapore-2) emerged a year ago. The report on Mumbai as an International Financial Centre (MIFC) was released a few weeks later. Much of the debate about these reports has been false, with real issues being obscured. Nevertheless, things have been happening; although too slowly.

In August 2007, it was decided at the highest levels that we should proceed with rapid development of: sovereign and corporate bond markets; derivatives markets in currencies and interest rates; and an onshore currency market. That decision is being implemented oddly.

Ideally, our two main exchanges (BSE/NSE) should be designing the new derivative instruments and contracts, and referring them to Sebi for review and clearance. Instead, the RBI is designing such contracts, and insisting on regulating them. That approach contradicts common sense and global practice, and will slow progress.

MIFC has made other recommendations aimed at: (a) reducing micro-management by the RBI and Sebi; (b) dismantling the licence-control raj in finance; (c) permitting securities, derivatives and commodities markets to work better with more opportunities for risk management; and (d) encouraging more competition and innovation. These too are being resisted on the grounds that ostensibly concern systemic safety, but are substantively spurious.

Bureaucratic resistance to reform needs to be overcome by emphasising how urgent these reforms are. But policy-makers and regulators are risk-averse and prefer to drive slowly to prevent accidents. Sometimes they seem so concerned about avoiding accidents that they try to abolish traffic altogether.

The government needs to ask itself whether it will continue with this self-inflicted paralysis, and with giving bit-players the upper hand in determining crucial strategic outcomes - ostensibly because of the "contradictions of coalition government". If that is the case, the UPA offers no reason for why it should be re-elected. What is the point of re-electing a coalition that is demonstrably incapable of movement in any sensible direction?

Alternatively, the government might decide to take a calculated gamble and forge ahead. Some demonstration of having a spine, even at this late stage, may result in it having more to gain than to lose.

There is, however, the possibility of derailment, with an intriguing pattern recurring. The Tarapore-1 Report on capital account convertibility and the Narasimham-2 Report on a second round of financial reforms (Narasimham-2) appeared in 1997. Tarapore-1 suggested that India should have capital account convertibility by 2002.

Narasimham-2 was the intellectual progenitor of what the MIFC is proposing now but on a less ambitious scale. When they appeared, both reports of 1997 engendered considerable optimism about the next stage of financial reform. But that disappeared with the Asian financial crisis in September 1997.

The conclusions drawn and lessons learned from that crisis (mostly wrong) resulted in both reports being buried and forgotten. No one revisited them until Tarapore-2 and MIFC appeared last year. It is not that nothing happened. There was some movement in the equity derivatives, foreign exchange, money, and G-Sec markets. But, overall, 1997-2007 was a lost decade for Indian finance. And the Asian crisis was the excuse. There is now a real risk that the sub-prime and Northern Rock crises of 2007 will provide the next excuse for blocking further reforms.

There is a torrent of comment about this crisis showing: (a) how dysfunctional the supposedly sophisticated Anglo-Saxon financial system is; (b) how confused the UK is about its reformed regulatory regime; (c) how global financial markets have failed dramatically; and (d) how the public purse is being raided to prop up "bonus-eating" financial pirates who have bankrupted others by inventing complex instruments, ostensibly intended to allocate risk more efficiently, but ending up with no one understanding what the risk is or who bears it.

The implication seems to be: "Aren't we lucky in India to: (a) have a primitive, state-owned, bank-dominated, asymmetrical financial system with a developed equity market, but undeveloped debt, currency and derivatives markets; (b) have it regulated and micro-managed through a licence-control raj; (c) adopt sub-optimal, temporally inconsistent compromises through a 'muddle-and-meddle' approach; and (d) allow no room for innovation and competition in financial services."

"As a result of this home-grown, jerry-built regime, aren't we fortunate that financial markets have not been permitted to fail in India, through the elegant expedient of not permitting them to work in the first place?"

There is a germ of truth in criticism of the current financial crises in the US and UK. But it is obscured by layers of exaggeration and misrepresentation to make the point that "sophisticated" financial markets are inherently dangerous, and to imply that India has avoided a similar fate by opting for primitivism instead.

These outrageous portrayals by critics of reform - opportunistically assailing "market fundamentalism" for the problems it creates through episodic market failures - run the risk of throwing the baby out with the bath water. If heeded, propagandists for the Indian middle-path, who are genetically inclined toward advocating heterodox intermediate regimes, risk doing serious damage to India and its financial system.

What has happened as a result of unsustainable policies (simultaneous budget and current account deficits, and loose monetary and fiscal policies) in the US is that a huge liquidity bubble of $7-10 trillion has caused massive inflation in global prices for all asset classes: property, stocks, commodities, etc.

The process of unwinding has now begun, with large declines in valuations of US property. How will unwinding proceed in other asset markets and especially emerging markets like India's? That is a question that we will be preoccupied with as 2008 unfolds. But it should not be a question that deflects us from the urgency of continued financial reform.

India needs to take its rightful place quickly in the world of financial service exports. It can provide financial services more efficiently than most other countries. It would be a waste of talent and opportunity not to exploit that comparative/competitive advantage.

But, to do so, India must have an open capital account, with capable and efficient markets, world-class institutions and responsive regulators, not overbearing ones wedded to antediluvian modes of command-and-control, without making the effort to be more modern about risk management, and thus more inclined toward intelligent and subtle interventions.

State ownership in countries like India (which is not Singapore) is inherently and structurally unconducive to efficiency, innovation, competitiveness, or probity. For that reason it needs to withdraw from finance. Keeping all this in mind, the agenda for continued reform is large and complex; nothing should be permitted to deflect us from the goal of achieving it - certainly not obdurate and obtuse analysis of what the 2007 crisis does and does not teach us!

The author was the chairman of the committee on Mumbai as an International Financial Centre.