Ten days after D. Subbarao took over as Reserve Bank of India (RBI) governor in September 2008, US investment bank Lehman Brothers Holdings Inc. collapsed, leading to an unprecedented global credit crunch, something not seen since 1930. Subbarao got a two-year extension as India’s chief money man on Tuesday, roughly a month ahead of the date on which his term comes to an end. And it comes at a time when global markets have been reeling from the impact of an equally unique development—the downgrade of the US’ AAA credit rating, a status the country has enjoyed since 1941.
There are uncanny similarities on the domestic front too. When Subbarao took over the assignment, India’s policy rate was 9% and inflation 10.78%. Now, when he begins his second term, the policy rate is 8% and inflation 9.44%. The collapse of Lehman Brothers and the liquidity crunch that followed forced him to cut rates and pump money into the system to prop up a sagging economy. This time around, a reversal of monetary stance may not be imminent, but one cannot rule out a pause in the Indian central bank’s aggressive rate-increasing cycle to ensure that economic growth is not badly hurt.
By extending his term, the Indian government opted for continuity as the world’s second fastest growing major economy grapples with persistently high inflation amid risks to economic growth. Extending the term of a serving RBI governor is not new. Subbarao’s immediate predecessor Y.V. Reddy had a five-year tenure at one go, but his predecessor Bimal Jalan, who served for six years, received an extension, as did C. Rangarajan, who was governor before Jalan for five years. But Subbarao’s extension is interesting because he has been fighting with the finance ministry openly for preserving RBI’s autonomy and has been vocal about the government’s failure in managing the fisc.
In 2010, when the government decided to end the turf war between the Securities and Exchange Board of India and the Insurance Regulatory and Development Authority on unit-linked insurance plans through an ordinance and proposed setting up a joint panel to resolve disputes among financial sector regulators, Subbarao was quick to write to finance minister Pranab Mukherjee, saying that “the appearance of autonomy is as important as the actual autonomy itself” and “the very existence of a joint committee will sow seeds of doubt in public mind about the independence of regulators”.
“The ordinance has seeming implications for regulatory autonomy and sows seeds of doubt where none exist. My earnest request to you is to allow the ordinance to lapse,” Subbarao had written. Mukherjee, an astute politician, did not listen to him and went ahead with the plan. By agreeing to his extension, the finance minister has shown the same political acumen as continuity is critical at the current juncture.
Quite a few names had been doing the rounds for the coveted post—Raghuram Rajan, a University of Chicago professor, an economic adviser to the Prime Minister and former chief economist of the International Monetary Fund; Kaushik Basu, chief economic adviser in the finance ministry; economic affairs secretary R. Gopalan and former RBI deputy governor Rakesh Mohan. Typically, no search committee is formally appointed to identify an RBI governor; the Prime Minister’s Office picks the candidate with inputs from the finance ministry.
What has Subbarao’s tenure on Mint Road been like? He has drawn flak from some quarters for his now-famous baby steps and many felt he was behind the curve in fighting inflation till his last policy action in July, when he raised the rate by 50 basis points (bps), surprising the market and shocking many members of the central bank’s technical advisory committee, who were pitching for a pause. One basis point is one-hundredth of a percentage point.
A physics graduate from the Indian Institute of Technology, and a master’s in economics from Ohio State University, the 61-year-old former finance secretary started at RBI rather tentatively, but in 35 months has become a seasoned central banker through seven rate cuts and 11 hikes—something no governor has done in the Indian central bank’s 76-year history. His confidence was seen in the tone of the last policy when he justified the 50 bps hike, saying it was done to “maintain the credibility of the commitment of monetary policy to controlling inflation” and the objective was to “reinforce the point that in the absence of complementary policy responses on both demand and supply sides, stronger monetary policy actions are required”.
At the beginning of his tenure, when he went for deep rate cuts and flooded the system with loads of money to ward off any impact of the global credit crunch, Subbarao held the finance ministry’s hand tightly and worked in close coordination. But as he learnt the tricks of the trade, he showed his true colour as a central banker and the July policy is a testament to that. In his next term, apart from taming inflation and ensuring economic growth, Subbarao also needs to complete quite a few politically sensitive projects, including private entities’ entry into banking and savings bank rate deregulation.
Speaking at a function in Mumbai last week, Subbarao poked fun at himself and his duties as the man in charge of monetary policy. He said he tosses a coin—heads it’s a 25 bps increase, tails it’s 50 bps. And if the coin lands on the edge, he asks the finance minister for advice.
Jokes apart, since RBI is answerable to Parliament, no central bank governor can afford not to consult the finance minister on critical policy decisions. There’s nothing wrong with that as long as the governor sticks to his stance. The July policy demonstrated that Subbarao has graduated from being a finance secretary sent to RBI to take up the governor’s job to being a central banker.
Tamal Bandyopadhyay keeps a close eye on all things banking from his perch as Mint’s deputy managing editor in Mumbai. Please email your comments to email@example.com