In the bad old days of monetary policy, there was hardly a policy. The government ran as high a deficit as it wanted, which the Reserve Bank of India (RBI) had no choice but to swallow (read: monetization). That left the central bank with little rein over interest rates.
RBI governor D. Subbarao, in a speech in Washington, DC, on Monday, noted how it’s only since 1997 that fiscal policy stopped dominating the monetary side. RBI no longer automatically monetizes deficits, and Parliament has set clear rules for fiscal discipline.
But we wonder if India has taken a step backwards with the “‘fiscal dominance’ of monetary policy” becoming a “concern” again. Last week’s RBI policy explicitly pointed to the limitations deficits impose at a time when the central bank wants to rein inflation.
It’s good that the government promised fiscal corrections in the Budget. But talk of food security—a new era of “rights”, funds for which will be provided in every budget— means that these limitations aren’t about to go away. Meanwhile, bond yields are ticking upwards.