‘RBI’s board must keep off operational decisions; extraordinary dividend by central bank could stoke inflation and up interest rates; govt right on NBFC liquidity issue’.
Former Reserve Bank of India (RBI) governor Raghuram Rajan on Tuesday waded into the ongoing tussle between the RBI and the finance ministry, giving solid support to the central bank’s assertion of its autonomy and opining that its board would do well to keep the tradition of not taking ‘operational decisions’ and only giving wise counsels in the interest of overall institutional health.
Rajan’s views could weigh in favour of the RBI brass, which is set to hammer out a clutch of contentious issues including the way the RBI is governed, with an insistent group of government nominees on its board as it meets next on November 17.
In separate teleconference interviews given to two Indian TV channels from the US, the former IMF chief economist —who many believe left the RBI in September 2016 ending a three-year tenure at its helm as the NDA government was not keen on his continuing — however, seemed to back the government on how to resolve the current cash crunch in the non-banking financing sector — via injection of liquidity facilitated by RBI.
Also, while the government is weathering political heat over the Prime Minister’s Office (PMO) allegedly not acting promptly on a list of large defaulters of bank loans sent to it by Rajan when he was the RBI governor, he told ET Now he saw “the political will to bring frauds to book”.
While a fiscally constrained government is seeking an unprecedentedly high amount from RBI its “surplus reserves” as dividend, Rajan reiterated that RBI ought not to pay “more than profit,” and added that extraordinary dividend by it would lead to an inflationary situation and consequent rise in interest rates. “There are no free lunches with dividends… there is no Rs 3 lakh crore (the amount some reports say the government sought) to give to the government. Giving dividend and then sucking out liquidity will not change the borrowing programme,” he said.
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Highlighting the distinction between a solvency crisis and a ‘pure liquidity’ issue — the former would involve the hazard of bailing out th private NBFCs with taxpayer money, Rajan told CNBC TV18: “If it’s a liquidity problem, the central bank can flood the market with liquidity or give the liquidity to specific private entities that are healthy, and are willing to lend to these other entities that are in trouble.”
Although the RBI insisted for a while that NFBCs did not face a liquidity crisis, it last Friday allowed banks to offer partial credit enhancement (PCE) to bonds issued by NBFCs and housing finance companies (HFCs). The PCE enables a company to improve its creditworthiness by securing a backing from a higher-rated entity (a bank, in this case).
Commenting on the role of the RBI board, comprising some of the government nominees who had been reportedly pushing the Centre’s agenda vigourously, Rajan said: “It (RBI board’s aim) is to protect the health of the institution, but also to provide wide, sensible advice… the aim of the board is to be a Rahul Dravid, sensible, thoughtful and not, with due respect, Navjot Singh Sidhu (considered too loud).”
“The RBI is something like a seat belt. As a driver, the driver being the government, it has the possibility of not putting on a seat belt but of course if you do not put on your seat belt you get into an accident and the accident can be quite severe,” he said.
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Historically, the relationship between the RBI and the government has been precisely this — the government wants to focus on improving growth and it does all it can within the limits set by the RBI which are based on financial stability. “So, the government will push, will try and get the RBI to be more lenient,” he said, adding the central bank would examine them in close details and in reference to risks to financial stability. “We (RBI) have responsibility for financial stability and therefore we have an authority to say no,” he said.
The long-simmering tension between the ministry and the RBI on issues — including the transfer of surplus capital with the central bank to the government, changes to the corrective regime for weak banks and special liquidity window for non-banking finance companies —flared up recently when RBI deputy governor Viral Acharya delivered a scathing speech on election-bound governments’ intrusion into the central banks’ autonomous space. Governments that make incursion into central banks’ autonomous regulatory space “will sooner or later incur the wrath of financial markets, ignite economic fire, and come to rue the day they undermined an important regulatory institution”, he added. The tension had come to a boiling point when the Centre invoked a never-used Section 7 of the RBI Act to seek consultations with the central bank on contentious issues.