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Singapore: Any move by the Indian government to treat currency that is not surrendered during the ongoing demonetization process as a profit will be “ill-advised,” former Reserve Bank of India (RBI) governor D. Subbarao has warned.
Speaking at MintAsia’s global banking conclave in Singapore, Subbarao cited speculation that the Indian government could use the currency that is not returned to solve its fiscal problems or to recapitalize banks, but pointed out that such a step would send out the wrong message.
“Then demonetization will be viewed as being done with other motives, rather than fighting black money,” Subbarao said.
“For argument’s sake, let us assume that a quarter of the Rs500 and Rs1,000 currency notes in circulation does not come back—this is equivalent to about Rs3.5 trillion, and can be considered as a windfall profit for the RBI. By law, the central bank has to transfer all its profit to the government. If RBI treats this as a profit, and the Centre demands that this be transferred to it, and they use this to play Robin Hood or to recapitalize the banks, or for whatever other purposes, this will send out the wrong message. I don’t believe that this is the intention of the current government, but if they were to do such a thing, it will be highly ill-advised,” he said.
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Subbarao also said that he was unsure about the legal position on whether the RBI could claim unreturned currency as profit.
According to him, all currency notes carry a legal obligation, as the “RBI has guaranteed that it will pay the bearer the sum or the value of the denomination that is printed on that note.”
“The government has not used the word demonetization. All that the government has said is that it is withdrawing these notes as being legal tender. But it still leaves us with the question: does the RBI have the obligation to pay the bearer, or is that obligation over, after the government announcement,” he added.
At the same time, the former central bank governor said the positives of the current demonetization drive outweighed the negatives.
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“If you ride out the short-term pain, the positives will be substantial, be in terms of attracting investments, and also getting people to move from physical cash to electronic transactions,” he said, adding that the benefits would only be realized in full if the government followed this drive to its logical conclusion.
He said that the money being deposited in the banks, as against having it “in the pocket, or under the pillow”, was good for the economy.
“Banks will multiply the money when it is with them. It will encourage banks to get lending rates down, even if the RBI does not ease any further…. demonetization will also help improve financial inclusion... banks will be able to give out more credit and all this will have a multiplier effect,” he said.
Asked about the implications of the election of Donald Trump as US president, Subbarao said if the US were to adopt a more protectionist economic policy, renegotiate trade deals and impose controls on immigration, these steps would have an impact on both India and the rest of Asia.
“We don’t know to what extent he will act on these steps. But if he were to be protectionist, the Americans will see that costs will actually go up. My fear is that Americans will see prices go up without fresh jobs being created. The American economy will not perform well—some of the corporates operating outside the US will take investments back, and that will be negative for India. Trump’s impact on the Fed is the most unknown and is the most risky. Any attempt by any powerful leader to tamper with issues that impact financial stability will have a large impact on not just the American economy, but also emerging economies,” he added.