In an interview to this newspaper just before she retired as deputy governor of the Reserve Bank of India (RBI), Usha Thorat gave a fascinating comparison between the styles of the four governors she worked with. C. Rangarajan had a professorial approach to the job; Bimal Jalan had an intuitive understanding of market psychology and avoided corner solutions; Y.V. Reddy thought strategically and was an ideas person; D. Subbarao is a consensus man and very keen on improving communications between the central bank and the outside world.

The new openness at the Indian central bank is welcome. RBI has traditionally not scored very well in indices that measure transparency at central banks. Opacity tends to confuse the financial markets and reduces the efficacy of monetary policy. A lot has changed over the past decade. Recent moves such as the move to policy announcements every six weeks rather than every three months and clear guidance in these statements about the end of policy normalization (in September) or a temporary pause in monetary tightening (in October) are important steps towards more frequent communication and more openness.

RBI has also started putting transcripts of its post-policy conference calls on its website. The latest such conference call with researchers and analysts was held on 3 November. It makes for interesting reading, because it gives us some insights into how the central bank thinks about various macroeconomic parameters that are important inputs in monetary policy.

1. India’s potential output

How much output an economy can generate without sparking off inflation is a key consideration of monetary policy, because it allows the central bank to take early calls on recessions and inflation accelerations. Governor Subbarao told one of the analysts attending the conference call that the Indian economy is currently growing at near its trend rate. In response to a question on overheating, deputy governor Subir Gokarn hints that there was clear overheating in 2006-08, when India was growing at between 9% and 9.5% and the global economy too was growing “at very close to…its potential and perhaps even exceeding it". This is perhaps a sign that RBI takes both local and global potential output into account to assess the impact of current growth on inflation.

2. The neutral policy rate

A policy rate can be said to be neutral when it neither stimulates an economy nor consciously slows it. Gokarn explained this issue with great clarity. “We do not really have a number explicitly, but to give you a sort of back of the envelope reasoning that is useful, if you look at our peak growth period before the crisis, in a situation where we were overheating, the repo rate was at 9%. If you look at the trough when we were trying to deal with the crisis, it was 4.75%. So in a sense these two numbers establish some sort of a boundary condition…" He goes on to say that India is entering the neutral zone though there is no one explicit number.

3. The money multiplier

A central bank creates reserve money through its balance sheet expansion. The amount of broad money (M3) in an economy is usually a multiple of reserve money, thanks to the credit creation by commercial banks. Reserve money growth in this fiscal has been higher than last year (after adjusting for the cash reserve ratio), but money supply has not grown at the requisite pace. In fact, M3 growth this year has almost consistently been below the trajectory that RBI is comfortable with. Deputy governor K.C. Chakrabarty explained to a questioner that the money multiplier was lower because people held far more currency than last year. Once again, the Indian central bank does not have an explicit money multiplier number, but behavioural choices of Indians between holding money in cash or in bank deposits do affect the money multiplier. That is perhaps why RBI has been doing some open market operations in recent weeks, to push up reserve money growth.

No central bank will show its full hand. It has to keep some cards hidden. Nor will a central bank provide explicit numbers on parameters such as potential output, its neutral rate and the money multiplier. But the discussions that the Indian central bank has been putting up for public viewing on its website go a long way to help us understand at least some strands of its thinking on technical issues.

Subbarao has done well to focus so intensely on clear communication. I hope this is not the end of the road as far as transparency initiatives go. RBI can do more. Many central banks in the developed markets release the minutes of their internal discussions on monetary policy, albeit with a time lag. Others have made public the econometric models used by central bank economists to assess the direction of output and inflation.

Will we have these in India as well?

Niranjan Rajadhyaksha is managing editor of Mint. Your comments are welcome at

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