Demonetisation hurt RBI’s image; it’s time the bank told the govt to mind the redline

Demonetisation has dented the image of the Reserve Bank of India (RBI). As the manager of the country’s currency, the central bank was expected to advice the government better and if necessary, stand up to it when it decided to make high denomination currency notes illegal tender at short notice. However, evidence available so far suggests that it failed to alert the government that demonetisation was going to be a terribly messy affair without adequate preparation. It played along, raising no red flag at any point. [caption id=“attachment_3180610” align=“alignleft” width=“380”] Representational image. Reuters[/caption] In the process, it was neither doing justice to the government nor to its own reputation as an institution. A report in The Indian Express says the demonetisation move was initiated by the government and not the RBI. On 7 November, the Umion government suggested the move and only a day later the Central Board of RBI recommended it after ‘deliberations’. On 8 November, Prime Minister Narendra Modi made the big announcement, trashing 86 percent of the country’s currency at one go. In the absence of the minutes of the board’s meeting, which the central bank has refused to make public, there’s no way of knowing what transpired inside but as subsequent developments indicate the government was having its way without any guidance or genuine feedback on the situation on the ground. The central bank was playing the passive facilitator. Interestingly, while Union minister Piyush Goyal said in Rajya Sabha that the demonetisation decision was taken by the RBI board, his party, the BJP, left no one in doubt that it was the call of the political executive. The developments brings into question the independence of RBI and its institutional credibility. While the efforts of the political executive to influence the monetary policy of the bank is not unknown, what comes as disturbing is the apparent lack of resistance from it. It is unimaginable that the institution managing the country’s money would fail to anticipate the disruptive impact of demonetisation. It could have cautioned the government that the movement would hit growth and economic activity in general besides causing suffering to people. What it was doing instead was changing rules on cash withdrawals and deposits almost on a daily basis to manage the crisis as it unfolded. Speaking to CNBC-TV18 on Monday, YV Reddy, former Governor of Reserve Bank, said the role of central bank was under threat and needed to be addressed as a national problem. “…The institutional identity of RBI has been damaged…I would even go to the extent of saying that particular recent events, I have seen the comments from economists, from Standard and Poor’s and they are disturbing. For the RBI, for a central bank, reputational risk is the worst risk. Credibility is the worst risk. And if this is happening in the international opinion, I would say that it is a national problem now…” A week after demonetisation, Standard and Poor’s director Kyran Curry had remarked that “it had cast a shadow over the RBI’s competence and independence.” Former prime minister and a former Governor of RBI Manmohan Singh wanted to know recently whether the central bank was given enough time to make a decision on demonetisation. His point, unstated though, was whether it was coerced into making the decision by the government. If that was actually the case, the RBI’s reputation and credibility is at stake. The government should be careful. It has been rather thoughtless in handling institutions that should stay insulated from any kind of political influence or controversy. If the RBI loses its reputation of being independent, its hard-earned global credibility takes a beating. The government and the bank are required to act in tandem, not as adversaries and not always in perfect agreement with each other. Hope the central bank comes unsullied in the demonetisation controversy.