The Finance Ministry is learnt to have accepted the Reserve Bank of India’s position that regulation of money market instruments should remain with the central bank.
This has been informally communicated to the RBI ahead of the traditional post-Budget meeting between the Finance Minister and RBI Governor, scheduled for March 22.
A provision in this year’s Budget, seeking to shift regulation of money market instruments away from the RBI, was red-flagged by the central bank, which cited the impact on monetary policy.
If approved by Parliament, the move to amend the Government Securities Act, the RBI Act and the Securities Contract Regulation Act (SCRA) will result in loss of control for RBI over two key instruments — repo and reverse repo — critical to influencing or managing interest rates.
Though this provision was not mentioned in Finance Minister Arun Jaitley’s Budget speech, the Finance Bill proposes to amend sections 45U and 45W of the RBI Act to remove the central bank’s powers to regulate government securities and other money market instruments.
In his reply to the general discussion on the Budget, Jaitley is expected to indicate the softer position that the government will adopt when amendments to the Bill are moved in the second half of the Budget session.
In an indication of the thaw, Jaitley said in Mumbai on Saturday that any ambiguity relating to regulation of the money market would be discussed during the debate on the Finance Bill in Parliament.
“I don’t want to talk about it (provision) outside (Parliament). If there is any ambiguity about the Finance Bill, we will discuss that in Parliament,” he told reporters. It is understood that Minister of State for Finance Jayant Sinha played the role of a mediator to bring about a rapprochement.
A repo transaction is one in which a bank or financial institution sells government securities or bonds to the RBI, which charges interest on it. Known as the repo rate, the RBI uses it to infuse liquidity in the system.
In the reverse repo transaction, the RBI sells or releases bonds to drain out excess liquidity. These transactions are carried out daily as part of the central bank’s liquidity management operations, and are currently not traded on the exchange.
According to officials, the proposal to amend the law would lead to the repo and reverse repo being traded on the stock exchanges, besides government securities — effectively shutting out RBI supervision or control over this segment. The proposal to amend the SCRA — to define the two products as a security just like shares, bonds or derivatives — will mean that they will move away from the RBI’s regulatory domain to the stock exchanges, and to the Securities and Exchange Board of India (SEBI).
The RBI has holdings of government securities aggregating well over Rs 6 lakh crore on its books to back the currency, and against its overseas investments. The central bank also holds excess government securities or bonds as part of its investments.
The regulation over the money market or government securities market is not the only contention either. The proposal to dematerialise all government securities and to move it to a depository, too, hasn’t gone down well with the banking regulator. Officials say that it raises the issue of accounting and a huge fiscal cost, considering the depository charges that would have to be paid. “There is a fiscal cost and impact to it,” an official said.
Settlement in government securities are now done by the Clearing Corporation of India, and the RBI does not want to rock the boat citing the experience of many countries where the central bank has control over that, including in China.
The latest move to ring in changes contrasts with the experience of 2006-07, when although regulation of trading in currency products shifted to SEBI, RBI was still assigned a role in vetting and approving products, and was consulted on imposing controls. This time around, there were hardly any consultations, two officials who did not want to be named said.
The meeting between the Finance Minister and the RBI Governor is the only public one that they hold every year, where the two with their respective teams discuss the fiscal underpinnings of the Budget. The meeting gives a chance to the RBI to understand the government’s priorities before it releases its monetary policy for the year in April.
The delay had also created a collateral problem for SEBI, whose chairman and members meet the top Finance Ministry team on the same day. Unlike the RBI meeting, however, this one is largely ceremonial. Among the changes announced in the Budget this year is a proposal to merge the Forwards Market Commission with SEBI, which has made the meeting with the regulator nearly equally important.