RBI policy: Urjit Patel's Raghuram Rajan act to restore central bank's lost credibility

The Reserve Bank of India (RBI) may be fighting a desperate fight to regain its lost stature making a strong case for its independence in policy decisions and affirming its unwillingness to compromise the authority of the monetary policy committee (MPC) in deciding the rate course as it fights inflation. The clues for this lie in three statements from the policy and the subsequent presser.

“The current state of the economy underscores the need to revive private investment, restore banking sector health and remove infrastructural bottlenecks. Monetary policy can play a more effective role only when these factors are in place,” the policy statement says.

RBI Governor Urjit Patel with his predecessor Raghuram Rajan. Reuters file photo

RBI Governor Urjit Patel with his predecessor Raghuram Rajan. Reuters file photo

"Premature action at this stage risks disruptive policy reversals later and the loss of credibility,” the statement said.

Second, is an important comment from RBI governor Urjit Patel about a meeting the finance ministry called with MPC ahead of the monetary policy review. At the presser today, responding to a question, Patel said “The meeting did not take place. MPC members declined the request of finance ministry for that meeting.”

It isn’t hard to imagine what would have been the purpose of finance ministry-MPC meet. The government clearly wanted a rate cut. The MPC deserves kudos for saying no to the invitation.
Just recently, in an interview with CNBC-TV18, union finance minister Arun Jaitley listed the reasons to support his argument for a rate cut to save the growth. “Inflation has been under control for a long time. Don’t expect the crude oil prices to go through the roof. Any FM in the current scenario will like a rate cut. But await MPC’s decision.”

Jaitley’s concerns were valid as the government is desperately seeking support for growth, which has slowed down by a big margin in the Jan-March quarter to 6.1 percent on account of a slew of factors, including demonetisation, a slowing global economy and domestic factors. This, coupled with the government’s feeling that the RBI is not doing enough to support growth would have put immense pressure on the MPC to announce a rate cut.

Third, “The risk of fiscal slippages, which, by and large, can entail inflationary spillovers, has risen with the announcements of large farm loan waivers," the statement said, reiterating Patel's past stance — yet again a brave statement that irk the ire of the ruling BJP government which planted the loan waiver-plank among farmers during the Uttar Pradesh polls. Other states such as Maharashtra, Madhya Pradesh are now suffering the ripple effects of this smart political and imprudent economical decision.

Overall, the monetary policy statement is a clear message to the government that rate cut is a useless exercise unless the key structural issues in the economy are solved. The fiscal authorities should work on that to enable the MPC and the RBI offer the rate cut.

In fact, the MPC could have gone for a rate cut to appease the government. It didn’t. Most economists had cited the likely worry of the central bank and MPC on inflation pressure from the Goods and Services Tax (GST) rollout. But, the RBI clearly said in the policy statement that it isn’t a reason for holding back the rate cut. Take a look at the last line of the 14th paragraph of the policy statement. “The implementation of the GST is not expected to have a material impact on overall inflation.”

So, what then? The consumer price inflation isn’t a worry at this stage. The April CPI has fallen to 2.99 percent much lower than the RBI’s medium term target of 4 percent. Weather watchers have given a good monsoon forecast. But, the MPC still decided to go ahead with a pause giving only a 50 bps cut in SLR (the portion of money banks need to invest in government bonds and gold), which is of hardly any use to the system given that banks have already excess holding in G-Secs.

The RBI, post the Raghuram Rajan era, has been fighting a credibility-crisis, especially in the aftermath of the demonetisation episode and the debate on whether PM Modi’s action helped the economy or harmed it. In the policy statement, MPC has acknowledged the impact of note ban on prices, but at the presser Patel seemed to defend demonetisation arguing why it isn’t the primary cause of an economic slowdown and there are multiple factors. But, the RBI cut the economic growth projection for the current fiscal to 7.3 percent from 7.4 percent earlier.

Not many among the economists and former RBI officials think the RBI has handled the demonetisation episode well. The counting process of money returned to bank branches after note ban is still on. At some stage in the presser, it appeared like the governor is speaking in the language of a finance ministry official to defend the note ban, instead of offering more clarity.

Nevertheless, the above mentioned points of the policy statement and the MPC declining to meet the finance ministry ahead of the policy gives one the impression that both the MPC and the RBI are making a desperate attempt to regain the lost glory and independence of the Indian central bank. That’s a good sign for the larger economy. Good job Mr Patel.


Published Date: Jun 07, 2017 04:33 pm | Updated Date: Jun 07, 2017 04:45 pm


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