BackExtending the RBI governor’s tenure
It would be a good democratic practice to explain political decisions such as this as clearly as possible
Premium
Much of the discussion on monetary policymaking in the near future will probably be centered on the question of extending the tenure of Reserve Bank of India (RBI) governor Raghuram Rajan—set to end by 4 September. A number of observers strongly advocate an extension on grounds that the governor could: a. change the thinking on policy framework to inflation targeting, b. stabilize prices and foreign exchange markets, c. help build foreign exchange reserves to a reasonably safe extent, d. influence public opinion in favour of the need for fiscal prudence and for keeping domestic debt within reasonable limits, and e. bring about awareness of the need for transparency and improved communication strategies. Some also cite the instance of Rajan predicting the global financial crisis much ahead of others in 2005 as firmly indicative of his ability to foresee events that may have a bearing not only on macroeconomic policy but also on financial stability.
There are, however, many who are indifferent to the idea of an extension if not opposed to an extension. An MP, himself an economist of repute with excellent articles in renowned academic journals such as Econometrica and Journal of Political Economy, has gone to the extent of suggesting that the governor should get back to his academic job in the US on the grounds that by pursuing dear monetary policy, he has killed the investment climate.
Apparently unnerved by this criticism, Rajan seems to have suggested recently that he found satisfaction in what has been achieved so far during his tenure and believed that much more was needed to be done.
It is difficult to take sides on the question of extension of service simply because decisions to appoint and to extend tenures are political. One hopes that the government would objectively consider at least five questions before announcing its decision. It is best to list them and give some views that are by no means exhaustive but are indicative of the issues involved.
First, have the outcomes during Rajan’s tenure improved the financial environment for growth? The governor himself has mentioned that growth is not the first and foremost objective of monetary policy and it would be optimized by ensuring that inflation is kept within the determined ‘targets’ for each year. More recently, in London, he has explained that bringing down interest rates to spur growth has not worked—for example, in advanced economies where official rates have been brought down to zero or near-zero.
He has, however, not given his definitive view whether official interest rate changes would bring about the requisite shift in inflation to the desired path. What he has conveyed so far may be placed under two heads: 1. the uncertainty in monetary transmission channels have rendered interest rate reductions ineffective and reductions in such an uncertain world could militate against inflation control; 2. the international economic and financial environment has not been conducive for India’s stronger economic performance.
Some observers believe that since the international environment is not supportive and inflation is not necessarily demand-driven, it is essential that interest rate reduction be effected to promote a favourable domestic environment and incentivize capital inflows.
Second, has the financial sector been strengthened from mid-2013, when Rajan was appointed? This question may be seen in conjunction with the third one—does the creation of new institutions (the payments banks, for instance) help improve financial inclusion and provide a buffer to those in acute distress such as agricultural drought?
On these issues, the evidence has in general been loaded against the RBI’s performance. The early warning signals, one hopes, are kept in view in the RBI. They, however, seem to have not been carefully studied.
Is it because of the public ownership structure of banks amenable to political pressure over the years? Again, why should there be such a huge jump in non-performing assets (NPAs) within a year or so? Is it indicative of some internal failure of detection and taking corrective action? The RBI could have brought down the NPAs year by year through regulation and supervision. Why has it instead gone in for the creation of new institutions without making sure that there would be implementation processes ensuring the flow of funds to that strata of society which would be vulnerable in difficult economic times. Is it to merely broaden the financial architecture? Broadening the financial sector might entail costs in the short run—but it could yield positive outcomes if the processes and skills are well tuned to the needs of the situation.
Fourth, what are the alternatives for the incumbent, in case the decision is not to give an extension as a matter of principle? If the idea is to pick someone who will be totally subservient to political masters, the rationale of having a separate monetary authority would have no meaning. To Rajan’s credit, he has shown a flair for spurring debate on central bank independence within the given limits of political propriety.
Fifth, should the governor be a public official rather than a public intellectual when making any of his views public? It is here that some may fault Rajan for obfuscating this distinction. However, in more recent weeks, he seems to have shown that discretion is the better part of the valour that is needed for waging intellectual battles within the confines of economic policymaking.
Whatever be the final views on each of the questions, there is a good case for giving Rajan an opportunity to prove his mettle. In general, the governor’s term of five years should be observed with provisions for clauses for dismissal on more definitive and firmer grounds than what the law has so far provided. Besides, there should be clear guidelines for accountability of the governor’s actions and communication methods. Moreover, institutional mechanisms such as the public hearings of parliamentary committees should be developed with utmost speed.
Will the government seriously consider an extension for the governor on definitive questions such as the above? It would be good democratic practice to explain political decisions as clearly as possible, though this has not been the case so far. It is time that a new beginning is made in this regard so that future decision-makers will be better understood.
A. Vasudevan is a former executive director, Reserve Bank of India.
Comments are welcome at theirview@livemint.com
Unlock a world of Benefits! From insightful newsletters to real-time stock tracking, breaking news and a personalized newsfeed – it's all here, just a click away! Login Now!
