The Monetary Policy Committee which is to be constituted by the government is an interesting concept which will crystallize in course of time. The basic purpose is to ensure that decisions are taken by a group of experts from not just the central bank but also from the relevant field. This will add some kind of balance when decisions are taken. This system is not new in the central banking world as other monetary authorities also follow such a practice.
This is also not be a new experience as such for the RBI as there is a technical committee which does meet before the policy before taking decisions on further action. In the present scenario, the RBI Governor has the overriding power. The committee comprises 7 members which also includes outside experts. Hence the new committee should not matter much as it will be a replication of the same. The only difference will be that the independent members would be decided by the government and there is no reason to think that the members will not be appropriate. Therefore, this should not be an issue for the RBI.
The important part of this story will be the position of the RBI Governor on whether he would have the final say. This is critical to ensure that the decision is taken independently. This issue has surfaced mainly because there is a perception that the government and the RBI may not be on the same page when it comes to taking monetary policy decisions. As a corollary, with the independent members being chosen by the government, the final outcomes could be skewed in its favour.
The problem arises mainly because of the way in which the two entities view growth and inflation. RBI has agreed to target inflation based on the MoU signed with the government and hence has to perforce look at inflation trends, in particular the CPI number. When it views inflation, it is not just current inflation but also expectations that are in focus. The RBI is hence more worried about an unfavorable monsoon and its impact on output and prices. It cannot take a decision of lowering rates when it knows that inflation can increase in the near future. Hence it tends to be what is called ‘hawkish’ most of the time as it has become in a way responsible for inflation in the country even on the cost side.
The government has a different way of thinking. If inflation appears to be under control or coming down, then the argument is that interest rates should be lowered to push up investment and growth. Therefore, the view is always what is called ‘dovish’ which leads to a difference of opinion which in turn makes headlines. Inflation is a challenge for the government only after it surges and its responsibility then is to plug the gaps to the extent it is possible.
As the committee now will be taking decisions jointly, there would be less of controversy or rather perceived differences between the two authorities. The unknown factor would be the deciding vote in favour of the Governor if there is a balance in views. Hence, while the discussions would be by a team, the decision on the final outcome by the competent authority would be a matter of conjecture, though it looks like that in the event of a tie, the RBI would still have the last word.
The idea of bringing in such group-think is interesting because the obvious question is whether we should be having a similar approach for other policies too. Monetary policy is with the RBI, but if the government is to play its role through the elected representatives, then the question is can the same be extended to fiscal policy which is hitherto in the domain of the government.
The RBI is always concerned and rightly so on the level of deficit; and hence the budget becomes an important number or event. This is so because the level of borrowing of the government along with the credibility of the other numbers finally affects the liquidity situation and hence interest rates. The two cannot be separated. Hence, the RBI should also be a part of the budgetary exercise.
Presently the Budget is a secret affair where it is only the government which is involved. There are several representations made by various interest groups with the decibel levels increasing as the industry associations keep lobbying for various changes in the area of concessions. At the same time academicians and economists are forever telling the government how to put the right numbers in the books. Ideally hence, the monetary policy committee model should extend to this domain too where there is a balanced view coming from various experts.
The government can however, have more representatives to begin with as there are also political issues to be addressed and the art of fine balancing is followed. But having independent members could help to make the overall content more balanced. The FM can have the casting vote on issues which are hard to resolve. This would be a transparent way when drawing up a budget. If it works at the central level, the same can be experimented with at the state levels too.
The same rules can be applied to various branches of policy formulation which cuts across different authorities so that there are transparent systems in place when arriving at difficult policy decisions. This holds also in areas of trade, telecommunications, and natural resources etc. which are prone to controversies. Getting in an independent view in the process is always progressive.
(The writer is Chief Economist, CARE Ratings. Views are personal)
Updated Date: May 12, 2016 15:48 PM