Sources and uses of RBI surpluses

The higher-than-expected dividend to be given by the Reserve Bank of India (RBI) to the government did shake the market positively as could be seen in the softening of bond yields. The finer details of the emergence of this dividend will be available once the accounts are worked out and the central bank brings out the annual report. Till then, there will be considerable speculation on the components that have contributed to the sum of Rs 2.1 trillion.

This is the highest amount ever earned by the RBI on its books that is being transferred to the government, with the previous high being Rs 1.76 trillion in FY19. Here, the higher surplus emerged as the result of a special committee being set up to study the optimal reserves to be held by the RBI. The committee had recommended certain norms in terms of contingency reserves, which led to the write-back of “other income” that increased income and hence surplus. The amount was Rs 52,637 crore, which was for excess risk provisioning. But this time the ratio has been increased from 6% to 6.5% and hence there could be no such transaction on the balance sheet side. The surplus would have emanated from the operations of the RBI.

There are three sources of income which would have yielded this increase. The first is the income from liquidity operations where the system was in a deficit since October, which meant that the variable repo rate operations would have yielded upwards of 6.5% on the amount borrowed by banks. The second would be the RBI’s forex operations where the central bank was regularly in the market, buying and selling dollars to stabilise the currency. Both legs of the transaction would have yielded a revenue for the RBI depending on the price at which dollars were bought and sold. This was a large component in FY23, too, and overall operations this year was of the order of $338 billion in FY24 as against $399 billion in the previous year. The third source of income would have been the returns on forex reserves. Forex reserves increased by around $60 billion last year. A sum of $570 billion as forex reserves would have delivered a return of close to 4%. In FY23 the yield had gone up to 3.73% from 2.11% in FY22 as the Fed had raised interest rates sharply right into 2023. Therefore, a combination of these three sources of income would have contributed largely to the surplus that has been generated this time.

Clearly, even the government had not expected this amount as can be viewed from the Budget document that had looked at Rs 1.02 trillion as dividend from both the RBI and public sector banks (PSBs). This gives a lot of cushion to the government in formulating the main Budget for FY25 that will probably be announced in July. There are different ways in which the additional Rs 1 trillion can contribute to the budget process. In fact, given that the PSBs have also been profitable and would be paying a good dividend to the government, the effective gain could be closer to Rs 1.2 trillion.

The first option is to do nothing and keep the surpluses. As a proportion of expected GDP of Rs 328 trillion for FY25, this would work out to around 0.3%. Hence, ceteris paribus, the fiscal deficit ratio would come down to 4.8%. This will also mean that the borrowing programme of Rs 14.1 trillion could come down by this amount. This is probably the reason why the bond and stock markets reacted more than positively to this news.

The second option is to use the full amount or part of it for additional capex. This would be contingent on the ability of the government to execute these projects in less than nine months given that the actual allocations could start only in August. But this issue is very much on the table and can be considered on merit.

The third use of these funds would be for covering up any deficiencies that may come up during the year. The success of disinvestment has been limited in the last couple of years, and these additional funds can help cover up any slippages on this front.

The fourth alternative would be to use it to retire the government’s debt which comes in the form of buybacks. The advantage is that debt is reduced and the pressure on liquidity is eased as the banks have more money to use for commercial purposes.

The last option would be to create a contingency reserve where these funds could be parked and used by the government for specific purposes. This can include exercises like capex or providing incentives for any programme like performance-linked incentive or health and education. In fact, given the deficit in social services such additional spending can fill the gaps.

Hence, assuming that the large surplus has been generated internally through central banking operations, there is reason to believe that this may not always accrue especially as central banks elsewhere will be lowering rates. While surpluses of up to Rs 1 trillion look plausible under normal conditions, the present surplus is a big benefit that has accrued. It would be the prerogative of the government to decide how to use the funds. But several options are available for sure.

The writer is chief economist, Bank of Baroda.

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