Don’t dig deep into central bank reserves, warn experts

By: | Updated: November 7, 2018 8:04 AM

Experts have cautioned against dipping into the contingency reserves of the central bank without careful analysis.

Extraordinary RBI dividend would mean that the central bank pays more than its realised profits to the government; this could mean printing notes, fanning inflation and lead to increase in interest rates, some of them warned.

Experts have cautioned against dipping into the contingency reserves of the central bank without careful analysis. Both the government and the Reserve Bank of India (RBI) should hold stakeholder consultations if differences in their approach persist, they added.

Extraordinary RBI dividend would mean that the central bank pays more than its realised profits to the government; this could mean printing notes, fanning inflation and lead to increase in interest rates, some of them warned.

Pronab Sen, National Statistical Commission ex-chairman told FE: “There is no one way or the other. Both the parties must sit together, hammer out differences and work out a framework on which the transfers must be based.” In case of persisting differences, they can consult broader stakeholders and a committee can be set up (just like the Malegaon panel earlier) to review the existing norms.

Sujan Hajra, chief economist at Anand Rathi Securities, said if a portion of the currency and gold revaluation account is transferred to the government, it will be some kind of monetisation of government deficit.

The Central bank transfers surplus to government means central bank printing money, he noted and so, “in some sense, it should be inflationary.”

Also Read: Happy Diwali for infra firms! RBI follows Modi government’s suggestions, relaxes ECB norms https://www.financialexpress.com/industry/happy-diwali-for-infra-firms-rbi-follows-modi-governments-suggestions-relaxes-ecb-norms/1375077/

As per the annual accounts of RBI as on June 30, 2018, contingency and asset development fund aggregated Rs 2,54,919 crore. These funds have been created by transfer from the income account and are in the nature of provisions for contingencies. As percentage to total assets it amounts to a little over 8%. The perception that the RBI capital is in excess of what generally other central banks have is because of the amounts held in CGRA. This amounts to Rs 6,91,641 crore.

“India holds foreign currency assets for precautionary purposes and, therefore, needs to hold structurally long positions in foreign currency for policy purposes. This is not with a commercial intent. Foreign currency assets also form a high proportion of the total balance sheet assets. For the purpose of financial reporting and transparency, such assets are revalued at market rates and gains and losses are transferred to a revaluation account. The gains arising from such revaluation are unrealised and notional and have not come out of profits generated by RBI. It cannot, therefore, be treated as free reserves eligible for distribution. Any utilisation of these funds also has consequences for inflation and money supply,” former RBI deputy governor Shyamala Gopinath had told FE earlier.

“Dipping into contingency reserves of RBI requires a careful analysis of risk perceptions facing the economy, because foreign investors are very sensitive to such developments,” said NR Bhanumurthy, professor at National Institute of Public Finance and Policy.

Rajan also asserted that using surplus RBI transfer to capitalise public-sector banks (PSBs) could get the banking regulator into the business of owning banks with resultant conflicts of interest.

Former chief economic adviser Arvind Subramanian had, however, suggested that the central bank’s ‘excess capital’ could be redeployed to bolster the capital base of state-owned banks.

Experts reckon that the RBI needs to maintain a strong balance sheet to perform its functions effectively. They note that the perception that the RBI capital is in excess of what generally other central banks have is because of the amounts held in the currency and gold revaluation account. The gains arising out of revaluation of foreign currency assets, these experts point out, are notional and cannot be treated as free reserves that could be transferred to the government.

To reduce the impact of cyclicality in the RBI’s economic capital levels on the surplus transferable to the government, the central bank has put in place a rule-based ‘staggered surplus distribution policy’ (SSDP) in FY18. In FY18, the central bank transferred Rs 50,000 crore surplus in two instalments to help the Centre tide over a tight fisc. This was more than Rs 30,659 crore in 2016-17, but lower than the level witnessed in the previous three years.

The RBI’s income usually comes from the returns it earns on its foreign currency assets — which could be in the form of bonds and treasury bills of other central banks or top-rated securities, and deposits with other central banks. It also earns interest on its holdings of local rupee-denominated government bonds or securities, and while lending to banks. It also charges a management commission on handling the borrowings of state governments and the central government. Its expenditure is mainly on the printing of currency notes and on staff, besides the commission it gives to banks for undertaking transactions on behalf of the government, and to primary dealers, including banks, for underwriting some of these borrowings.

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