The Central Bank must use its voice and speak truth to power by putting public interest before its personnel's career growth and promotions, says Viral Acharya, the former RBI Deputy Governor in his book, 'Quest For Restoring Financial Stability In India'. Globally, central bankers are increasingly facing government intervention because of growth challenges and the fiscal dominance - a large government debt to GDP and the growing fiscal deficit year after year. In a post-COVID world, the challenges for a Central Bank would multiply manifold as governments are pushing credit by offering guarantees and also encouraging forbearance.
"Most take the factors driving fiscal dominance-a large-sized government debt and deficit-as given and operate without attempting to influence them; however, the central bank can and should use its role as the economy's institutional safeguard of financial stability to highlight the risks that fiscal dominance entails," writes Acharya who quit RBI in June last year, six months before the end of his three-year term.
Fiscal dominance comes in the way of using the monetary policy effectively in managing inflation and growth and employment. Acharya has listed out half a dozen suggestions in his book that a central bank can undertake to limit being fiscally dominated. These includes things like firm commitment to long-term financial stability, independence and autonomy over regulatory decisions, adoption of policy rules over discretion, etc.
"Dissent and diversity of thinking, while seemingly confrontational, help lift the quality of debate and discussion for a better aggregation of views and eventually superior decision-making," writes Acharya. But in reality, things like dissent and diversity of thinking are hardly appreciated. The former Governor D Subbarao had a taste of it when he resisted all moves of the then Congress-led UPA government to reduce the interest rates in the economy. A former bureaucrat Subbarao stood his ground as inflation or inflationary expectations were high.
Raghuram Rajan replaced Subbarao in September 2013 at the fag end of the UPA-II, which desperately needed to push growth by cutting interest rates. A UPA appointee Rajan's three year tenure ended in September 2016 as he didn't get much support from the government.
Later Urjit Patel, appointed by the BJP-led NDA government, left in a huff when the government-appointed directors on the RBI board mounted pressure to relax regulatory guidelines like prompt corrective action for weak banks, pay higher dividend, transfer RBI's surplus capital, provide MSME restructuring, etc. Patel, in a powerful speech in March 2018, said that the banking regulations are not ownership neutral and that the banking regulator does not have much power to regulate the public sector banks (PSBs), which control over two-third of the Indian banking in terms of deposits and advances.
Same year, Acharya delivered a powerful speech on why it is important for a well-functioning economy to have an independent central bank. "Governments that do not respect a central bank's independence will sooner or later incur the wrath of financial markets, ignite economic fire...," said Acharya. A quick rebuttal came from the Economic Affairs Secretary who tweeted: "Rupee trading less than 73 to a dollar, Brent crude below $73 a barrel, markets up by over 4 per cent during the week and bond yields below 7.8 per cent. Wrath of the markets." The former RBI Governor Raghuram Rajan also faced constant attack for being vocal on many issues.
A young Acharya was getting frustrated as capital was getting injected in weaker rather than healthier PSBs. There were moves to dilute PCA framework for weak banks and minimum capital standards. There was restructuring or forbearance pressure. "In the case of some asset classes such as loans to micro, small- and medium-sized enterprises, the forbearance is not just a temporary reprieve of a few months, which could be justified if the underlying issues were cyclical, but is also a steadily evolving near-permanent feature of bank regulation, preventing the recognition that underlying stress of this asset class is, in fact, structural in nature," writes Acharya.
In addition, the RBI came under intense pressure to open up liquidity and credit taps to prop up the economy.
"Nevertheless, attempts to alter the governance structure of the RBI to institutionalise such outcomes in future would have meant crossing the Rubicon and had to be foiled. As a result, the RBI lost its governor on the altar of financial stability," writes Acharya. On default disclosure norms, Acharya has suggested a single-day (rather than only 30-day) default disclosure norm under the SEBI guidelines -in line with global standards. "This would be the natural next step for loan repayments," he writes.
Acharya has suggested addressing the fiscal dominance at its roots. "The heavy lifting must come from those individuals (bureaucrats and economic advisors) within the government who value the quality of long-term outcomes for the economy," he writes. The other suggestions include reorientation of expenditure towards items that have economically meaningful long-term multiplier effects such as education and infrastructure, setting up of fiscal council for monitoring consolidated debt and deficit numbers.
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