By KG Narendranath & Shobhana Subramanian
Direct financing of the government’s fiscal deficit by the central bank or creation of new money is fraught with several downsides, Reserve Bank of India (RBI) governor Shaktikanta Das said on Wednesday. The RBI’s role as the general government’s debt manager has only helped quicken the transmission of monetary policy during the pandemic period as lower funding rates co-existed with plenty of liquidity, Das said in an exclusive interview with FE.
The governor strongly rebutted the notion that a sharper and sustained focus on the yield curve might be eating away at the central bank’s principal mandate, which is, inflation-targeting.
Asked if the RBI had lately become a little more tolerant towards higher bond yields – at the last auction held on Friday, it set the cut-off yield for 10-year government securities (G-secs) at 6.1% after keeping it at below 6% for several months –, he said, “We’ve never had any fixation that the yield should be 6%, but some of our actions might have conveyed that impression. We are only interested in orderly evolution of the yield curve and market expectations seem to be converging with this approach.”
The RBI is seen by many as currently being burdened with its subsidiary function of meeting the government’s borrowing requirements, which were of an unprecedented order of Rs 21-22 lakh crore in FY21 and are likely to be of a similar magnitude in the current financial year also. Of course, it has so far ensured that the Centre and state governments have raised these funds from the market in an uninterrupted manner and at low costs.
Experts have said RBI may want to print money in order to monetise the fiscal deficit instead, since given the huge revenue shortfalls, even a far-larger-than-usual borrowing programme of the government isn’t producing any meaningful fiscal stimulus. Das said: “This (creating new money to finance deficit) was done away with as part of the economic reforms … and it was further repudiated when the FRBM Act was enacted.”
In 2020-21, the government’s borrowing costs were the lowest in 16 years, and private sector borrowing costs too substantially reduced, spurring economic activity, the governor said, adding that financial stability too was ensured across the board. “Housing loans have been available at all-time low rates for quite some time, facilitating a pick-up in the construction sector despite the second Covid wave”.
According to Das, the current spike in inflation was by and large transitory in nature and inflation could moderate by the third quarter. “What is transitory in nature needs to be watched very carefully. Any hurried or hasty action could completely pull down the economy, at a time when the revival is nascent and hesitant,” he said, when asked how serious a threat the unfolding inflation posed to the growth-supportive bias in the conduct of monetary policy. Many analysts have seen a build-up of price pressures in the economy, as inflation reading came above the upper band of the RBI’s target of 4+/-2%, for the second successive month in June.
Stating that the current inflation was largely influenced by “supply-side factors”, he cited the prices of diesel and petrol, including the Centre’s and states’ taxes on the two auto fuels. The governor reiterated that the Centre and states would do well to take more measures to soften the pace of inflation.
Asked whether the government’s reported plan to stand guarantor to the security receipts to be issued by the National Asset Reconstruction Company (bad bank), while acquiring stressed loans from banks, amounted to an untenable bailout of the banks, Das said internationally too, whenever there was systemic clean-up of bad assets, the sovereign played such important roles. “The US government came out with the policy of Troubled Asset Relief Program after the global financial crisis. There are other such examples from other countries. Coming to India, what is important is that this ARC framework that is being put into place should be driven by market principles. There are two aspects to it. One, the price at which the stressed assets would be transferred by the banks to the ARC should be linked to the market prices, based on fair assessments of the value. Second, when the ARC would want to dispose of the assets, it should again be driven by market principles”.