The bruising spat between the Reserve Bank of India and the Government has grabbed headlines in recent days, replacing the sordid happenings in the Central Bureau of Investigation. That the RBI and the government were not on the same page on several issues has been an open secret for the last few months. This is certainly not the first time the two are sparring; on the contrary, there is a long history to it. But what has come as a shock now is the degree of acrimony between them. Some astonishingly strong words have been used by both sides.
Even during the UPA regime, RBI Governors YV Reddy ad D Subbarao had their run-ins with the then Finance Minister, P Chidambaram, primarily over interest rate setting and FDI norms. But both sides managed to live with their differences and found a way to work with each other. This time around, going by the comments on both sides, the relationship seems to have broken down to such an extent that one wonders whether they could even work together again.
Central bank autonomy
It all started with Deputy Governor Viral Acharya’s recent speech, in which he accused the government of diluting the autonomy of the central bank. Acharya said governments that whittled down central bank autonomy would “incur the wrath of financial markets”. He further demanded a greater RBI say in regulating public sector banks, including powers to appoint and dismiss board members, mergers and licence revocation. More than its content, it was the tone and tenor of Acharya’s remarks that took everyone by surprise.
The Centre was not amused by this extraordinary outburst. There were even reports of the government considering invoking Section 7 of the RBI Act, under which the RBI is obliged to act on directions given by the government. Finance Minister Arun Jaitley, in a tit-for-tat retort, blamed the RBI for the bad loans mess in the banking sector, which was not only grossly unfair but also remarkably churlish. The bad loans mess is a combination of the business environment turning adverse, long gestation infrastructure projects getting stuck in red tape and a few politically connected industrialists gaming the banking system to their advantage.
Pressure from various lobbies
At the bottom of this spat, are the conflicting agendas of the RBI and the government. Perhaps Acharya was on to something when he made a cricket analogy in his speech, saying the RBI was playing a five-day match whereas the government was in a T-20 game. After all, governments are accountable to the people and they have severe political compulsions that central banks are happily insulated from. The government faces severe pulls and pressures from various lobbies and, as a political entity, has to be seen as satisfying every one of them. Broadly speaking, the central bank’s primary objectives are financial sector regulation and monetary policy, under which comes inflation control.
In this case, some of the RBI’s moves to tackle the banking system’s huge bad debt pile-up have come into conflict with the government’s objective of kick-starting investments. Under the prompt and corrective action (PCA) the RBI has placed severe lending restrictions on banks whose balance sheets are stressed. At the latest count 11 public sector banks are under PCA, which means they can’t lend. This obviously is leading to a credit crunch for industry, which has been lobbying hard for the government to ease up some of these norms. The government obviously cannot turn a blind eye to the industry lobbies, given the important role they play in election funding.
The RBI is, of course, under no compulsion to oblige industry lobbies, which is why it is being accused of ignoring their concerns. The IL&FS crisis too has contributed to this mess.
Bigger picture
It is indeed ironic that the RBI and the government are going through their worst ‘relationship crisis’ under Urjit Patel’s governorship. When Patel was appointed he was seen as someone who would be more accommodative to the government’s views. After all it was Patel who played ball during the government’s botched up demonetisation drive as he was left carrying the can. This clearly proves how far the relationship between the government and the RBI has soured.
There is little doubt that the country’s financial sector is going through its worst ever crisis. The problems are incredibly complex and there are no easy, quick-fix solutions. Compounding the crisis are the conflicting agendas of the various stakeholders involved. So this is perhaps the worst possible time for the government and the central bank to be fighting, that too publicly. At the risk of reiterating a cliché, instead of resorting to petty one-upmanship, now is the time for cool heads on both sides to sit together and work in harmony to solve the grave crisis before it spins further our of control.