Shaktikanta Das’ tenure at the helm of the Reserve Bank of India (RBI) ends on December 10, with the end of his second term as governor marked by a degree of confrontation with the North Block as the central bank refused to cut key policy rates despite growing clamour to tackle a slowdown in GDP growth. However, this tussle between the government and the RBI is not new or unusual.
The two sides have been at loggerheads for several years now, as successive governors have tried to protect the central bank’s autonomy and independence. Governor Das’ four predecessors – YV Reddy, D Subbarao, Raghuram Rajan and Urjit Patel – have been at loggerheads with governments in Delhi over a range of issues, including cutting rates to boost growth.
This trend was repeated recently when two Union ministers demanded a cut in the repo rate ahead of the monetary policy review on December 8. Finance Minister (FM) Nirmala Sitharaman advocated “cheaper bank interest rates” to boost industries and build capacity. Union Commerce and Industry Minister Piyush Goyal also urged the RBI to cut interest rates to boost economic growth and consider food prices while deciding on monetary policy. However, contrary to the government’s wish, the RBI, which is keen to bring inflation under control, kept the repo rate unchanged at 6.50 per cent.
Advertisement
PlayUnmute
Fullscreen
YV Reddy, who was RBI governor from 2003 to 2008, had a tiff with then FM P Chidambaram and even had to tender an “unconditional apology” to the minister after then Prime Minister Manmohan Singh tried to sort things out between them. Reddy, who had considered quitting twice during his tenure, said the government has the power to give directions. But according to Reddy, unlike other laws, even while giving directions, it is necessary to consult the Governor before issuing directions regarding RBI.
Financial sector priorities
A major area of disagreement between Reddy and Chidambaram pertained to the development of financial markets. Chidambaram was keen on the development of bond currency derivatives in an integrated manner. Reddy, however, pointed out that there were other priorities for financial sector reform. Reddy opposed a proposal in February 2008 to waive off Rs 60,000 crore of loans given to farmers.
The proposal to use India’s growing foreign exchange reserves (during 2004-05 to 2007-08) was put forward first by the Planning Commission and then by the government. This led to a confrontation between the government and the RBI, which opposed the proposal saying it was not unencumbered. It was resolved only when the RBI insisted that the government provide a guarantee on lending by the government-backed entity, IIFCL, from a part of the reserves.
Reddy referred to the Tobin tax on capital flows in a speech as an empirical case, following which the government forced the governor to clarify on the same day that there was no intention to tax flows.
Advertisement
After differences between him and the finance ministry came to the fore on several occasions, D Subbarao wrote that he was “always uncomfortable and disturbed by the demand that the RBI should be the government’s cheerleader”. Subbarao was the RBI governor during 2008-2013, when the global financial crisis rocked the financial system.
“Both Chidambaram and Pranab Mukherjee, who were finance ministers during that period, were upset with the RBI’s anti-inflation stance, which they felt was impeding growth,” Subbarao wrote in his recent book ‘Just a Mercenary? Notes from My Life and Career’.
“I had arguments with both Chidambaram and Mukherjee over the RBI’s policy stance. Both always pressed for soft rates, though their styles were different,” Subbarao said. He said Chidambaram usually presented his case like a lawyer, while Mukherjee was an ideal politician.
‘Thank God the Reserve Bank exists’
The creation of a Financial Stability and Development Council or FSDC, headed by the finance minister, was a flashpoint between the finance ministry and the RBI. The central bank argued that the primary responsibility for stability lay with the RBI and the new arrangement could dilute its influence. The government pushed the proposal even when Pranab Mukherjee was finance minister.
The other big battle that came out in the open was over interest rates. As finance minister, Chidambaram was advocating low interest rates at a time when inflation was still relatively high. When the RBI did not listen to him, he said that if the government had to walk alone to meet the challenge of growth, we would walk alone. To this, Subbarao responded a week before completing his term: “I hope Finance Minister Chidambaram will one day say that I am so disappointed with the Reserve Bank that I want to take a walk, even if I have to walk alone. But thank God the Reserve Bank exists.”
Raghuram Rajan, who was RBI governor between 2013 and 2016, recalled his predecessor Subbarao’s words when he said, “I am so disappointed with the Reserve Bank that I want to go for a walk, even if I have to go alone. But thank God the Reserve Bank exists.” “I would go a little further. The Reserve Bank cannot just exist; its ability to say “No!” must be protected,” Rajan added. In 2015, when the government included a provision in the Finance Bill without consulting the RBI, giving SEBI the responsibility to regulate currency markets, the RBI strongly opposed it. Rajan voiced his objections to the finance minister and the government, leading to the withdrawal of the proposal. Rajan and demonetisation Rajan was apparently not very enthusiastic about the demonetisation of currency notes. During his tenure, the RBI sent out a note outlining the potential costs and benefits of demonetisation, as well as alternatives that would achieve the same goals. “If the government, after weighing the pros and cons, decided to go ahead with demonetisation, the note spelled out the preparations that would be needed and the time that preparation would take. The RBI indicated what would happen if the preparations were inadequate,” he wrote.
Rajan was not given an extension by the government. Just weeks after his departure, the government announced the demonetisation of Rs 1,000 and Rs 500 notes. Urjit Patel took over as the 24th governor on September 5, 2016, and was chosen by the BJP-led government. His tenure saw strained relations between the RBI and the government. Patel resigned as RBI governor on December 10, 2018, citing “personal reasons”.
Patel’s tenure was marked by significant differences between the RBI and the government, as the central bank resisted government pressure to change policies on surplus transfers, a liquidity window for finance companies, and more powers for the RBI central board. The government had used a provision in the RBI Act – Section 7 – for the first time to initiate formal discussions with the governor.
During Urjit Patel’s tenure, controversy erupted when the government allegedly tried to tap the RBI’s excess capital reserves. Then, it also wanted the central bank to relax lending norms to small businesses. Patel refused to bow to government pressure on various issues and preferred to resign. According to Patel, since the government does not have enough space to run a high fiscal deficit, public sector banks are encouraged to lend (more) to boost the economy and promote preferred sectors, he said in his book “Overdraft: Saving the Indian Saver”. Almost inevitably, this leads to high NPAs over time, which require equity infusion from the government, and this ultimately drives up the fiscal deficit and sovereign liabilities, he blamed the government. The tussle between the RBI and the government came out in the open on October 26, 2018, when the then deputy governor Viral Acharya issued a scathing rebuke, reminding the government of the need for an independent central bank and warning that “governments that do not respect the independence of the central bank will sooner or later face the wrath of the financial markets, sparking economic fire and remembering the day they weakened a vital regulatory body.”
