Free or Fettered?
Former governors say the central bank’s autonomy is non-negotiable
A day after former governor of the Reserve Bank of India (RBI) YV Reddy commented that the central bank's identity seems to have been dented and its autonomy diluted post-demonetisation, another former governor Bimal Jalan on Tuesday stressed that the RBI autonomy is fundamental and needs to be maintained. A point proved by the RBI’s note to the parliamentary committee on demonetisation. The note confirmed the worst fears--of government’s interference in central bank’s decision making--and proved that the autonomy of the central bank has indeed been compromised.
“The government, on November 7, 2016, advised the Reserve Bank that to mitigate the triple problems of counterfeiting, terrorist financing and black money, the Central Board of the Reserve Bank may consider withdrawal of the legal tender status of the notes in high denominations of Rs 500 and Rs 1,000,” the RBI has said in reply to the questions raised by the parliamentary panel on finance headed by Veerappa Moily of the Congress.
On November 8, the prime minister made his famous late-evening announcement of withdrawal of high value notes. Also, demonetisation was done with no ground work, as of November 8, the stock of Rs 2,000 notes was barely 6 per cent of the currency drawn out of circulation. The move without preparation forced the whole country to queue up outside banks for long hours to get cash for meeting their daily expenses. More than 100 people died, including many senior citizens. After the demonetisation announcement, most ATMs across the country remained shut and those which did open ran out of cash quickly as the demand far exceeded the supply. Bank cash counters too faced the same problems despite restrictions on daily/weekly cash withdrawals. Many banks are now under the income tax department lens for allegedly helping their wealthy customers launder their black money. Also, reports state that Rs 15 lakh crore has come back into the system, raising questions on demonetisation.
While the RBI has a monetary policy committee (MPC) that was constituted recently after years of deliberation, the MPC was totally excluded from the decision-making process even though money supply is an integral aspect of monetary policy.
So far finance minister Arun Jaitley and power minister Piyush Goyal had maintained that the decision to demonetise high currency notes had come from the RBI.
Commenting on Reddy’s statement, Jalan in an interview to a news channel said he has great respect for Dr Reddy. “What he (Reddy) has said has to be taken into account.” The RBI is part of the economic system. There is a consultative process. The autonomy of the RBI is a fundamental fact and the government will give attention to that part also, said Jalan.
"...The autonomy of the RBI -- that is a very fundamental fact and we have to maintain it and I hope the government would give attention to that part also," Jalan said.
He said one would have to wait and see how the relationship between the government and RBI develops, which ultimately is a matter of coordination.
"...It is a matter of consultative approach and it is too early to be able to say how it will grow in...Autonomy of the RBI and autonomy is not what you call independence.
"RBI is a part of the economic system and there is always consultative process between the RBI and the government, but it is a process and when you talk about monetary policy -- the autonomy of the RBI is that you can take very hard decisions," Jalan said.
On Monday, Reddy had regretted that the institutional identity of RBI has been damaged and stressed that "reputational risk is worst risk" for a central bank.
"To be very frank, my own suspicion is that the institutional identity of the RBI has been damaged,'' Reddy told CNBC TV18 in an interview after the launch of his Telugu memoir, Naa Gnapakalu (My Memories). "The Reserve Bank of India is the monetary authority, yes, but it is a full-service central bank and it was in charge of many other things. The recent emphasis appeared as though monetary policy is the main function", he said.
Reddy said the bank's independence seems to have been undermined. "The governor is accountable to monetary policy… So, is he not accountable to regulation, (is he) not accountable to currency, coins? There is confusion about relative importance. That relative importance is being decided more outside than it is inside.''
Several think-tanks agree that the RBI under its new governor Urjit Patel has surrendered its autonomy after PM Narendra Modi's government on November 8 withdrew Rs 500 and Rs 1,000 notes that formed 86 per cent of the currency in circulation, or Rs 15.44 lakh crore worth of notes. While the norms were announced by Modi on how people could deal with such currency in their possession, they were subsequently changed on a daily basis, including limits of exchange of old notes, daily cash withdrawal limits, and limits on deposits exemptions.
Former prime minister Manmohan Singh, also a former governor of the RBI, had lamented in Parliament that constant modifications in the country's banking system following the demonetisation was not good for the country or the RBI.
"That reflects very poorly on the prime minister's office, on the finance minister's office and on the Reserve Bank of India," he had told the Rajya Sabha. "I'm very sorry the Reserve Bank of India has been exposed to this sort of criticism, which I think is fully justified."
“The government said the RBI has recommended the demonetisation. I do not know whether the government has forced the RBI to ask or the RBI took the call on its own," RBI's former deputy governor K C Chakrabarty said recently. RBI's position has always been against demonetisation, he said. "That was the consistent view of the Reserve Bank in the past," he said.
Demonetisation proved the government cares less about the central bank’s autonomy, an attitude that was evident when it did not extend the tenure of former governor Raghuram Rajan as RBI governor. In his last public speech at St Stephen’s College New Delhi, a day before stepping down, Rajan stressed on the importance of central bank’s independence. Recalling former governor D Subbarao’s words, Rajan pointed out why the RBI cannot merely exist and how the institution’s ability to say “No!” has to be protected, even though it still has to work under a framework set by the government.
“The Reserve Bank cannot just exist, its ability to say “No!” has to be protected. At the same time, the central bank cannot become free of all constraints, it has to work under a framework set by the government. This requires a number of actions,” said Rajan said in his last speech.
Last year while launching his book, Duvvuri Subbarao, former RBI governor and finance secretary, spoke about out the differences between the central bank and the government on various issues. In his book, he wrote in detail about his relationship with the government and the finance minister (P Chidambaram at that time) when he was at the helm at Mint Street, the headquarters of the RBI in Mumbai.
In his book “Who Moved My Interest Rate?” Subbarao wrote: “Both Chidambaram and Pranab Mukherjee were piqued by the Reserve Bank’s tight interest rate policy on the ground that high interest rates were inhibiting investment and hurting growth.”
He also said, “The logic of why the Reserve Bank should compromise its judgment so as to become a cheerleader for the economy never appealed to me.”
Chidambaram in an article last week wrote on demonetisation, “The decision-making process at the RBI was opaque and dubious. The RBI’s board of directors should have 10 directors regarded as independent. Seven vacancies in that category have not been filled by the NDA government. The three independent directors attended the fateful meeting on November 8. The recommendation was sent to Delhi where the Cabinet was waiting! How did the Cabinet know that the RBI board would recommend demonetisation?”
“The RBI is believed to have told a parliamentary committee that the Central government had recommended to the RBI (on November 7) that high denomination notes may be demonetised. Acting in haste, the RBI recommended to the government (on November 8) that high denomination notes may be demonetised! It was an unusual role reversal. The RBI has refused to release the agenda note for the meeting or the minutes. The RBI has refused to answer questions if any director had demanded more information or dissented.
“In his speech on December 31, Mr Modi ventured into territory where no prime minister or finance minister before him had gone. He directed banks to increase the credit limit for small industry from 20 per cent to 25 per cent of turnover and the working capital limit from 20 per cent to 30 per cent of turnover. He directed banks to provide 8 per cent interest on 10-year fixed deposits of senior citizens. On Saturday, the Prime Minister nudged the banks to reduce the lending rates and, on Sunday...Every announcement by the Prime Minister scuttled the independence and credibility of the RBI” wrote Chidambaram.
Falaknaaz Syed