Punishing the central bank
The government has signalled it will not tolerate a central bank independent beyond notional terms
Last week, the deputy governor of the Reserve Bank of India (RBI) in-charge of monetary policy, Subir Gokarn, demitted office even before his successor was announced. His exit came after his extension lapsed. RBI governor D. Subbaraofavoured an extension for him but the finance ministry did not agree. The impression this episode conveys is one of petulance on part of the government that wants to have its way at any cost, even if it means dangerous tinkering with one of the last independent institutions in India.
When he was appointed in 2009, Gokarn was one of the youngest deputy governors ever. Unlike the usual appointments to such positions, he had extensive private sector experience and brought in fresh perspective to the job. It was a good move. His exit represented the other extreme: his successor was not announced until he left office. Such cavalier attitude to key policymaking appointments at a time when policy continuity and careful management of the economy ought to be a priority do India no good.
There is, of course, no denial about the role of the personalities involved. The finance minister is a strong willed person; the RBI governor, a person known for doing what needs to be done. But even if one ignores the personality issues, the development is still an unhappy one.
Classically, independence of the central bank has two components: The freedom to decide how to pursue the goals defined by the political authorities and the irreversibility of the central bank’s decisions. This translates into freedom to use instruments the central bank thinks are appropriate and how to use them.
In India, the RBI’s freedom to choose and deploy instruments of its choice has always been under threat, when it has not actually been dictated by the government. In the last one year alone, two finance ministers have applied both subtle and overt pressure on the bank to reduce its policy rates. This has taken the form of making pronouncements about what RBI ought to do in the days before monetary policy announcements or trying to persuade the bank that the government is serious about fiscal consolidation, however flimsy such efforts are. And it is not as if RBI has not acquiesced. The reduction in the cash reserve ratio four times in 2012 by a total of 175 basis points, and the large Open Market Operations during the year, represent not only monetary easing but also monetization of the government debt. All this has come about when there has been no credible fiscal consolidation by the government.
If even after this weakening of the central bank’s monetary stance, the government is bent on making it reduce the policy rates, the conclusion can only be that it wants to whittle down RBI’s independence. Gokarn’s “ouster" must be seen in this light. As the deputy governor for monetary policy, he was the keystone in formulating RBI’s monetary policy stance. In this, he acted in tandem with Subbarao. By ensuring his exit, the government has sent a clear signal that it will not tolerate a central bank that is independent beyond notional terms.
Can any government in India tolerate a truly independent RBI? Tell us at views@livemint.com
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