There are already statements made that Urjit Patel is an inflation hawk—though one does not quite know what this can mean, considering that there is an MPC in place which may constrain subjective judgments
Suggesting an agenda for the new Governor of RBI is both improper and pompous given that the person chosen to head the central bank is an accomplished person from the system who knows what to do and does not require any advice.
This said the markets will be watching for signals from the new Governor as this has become a habit where there are certain expectations that are raised which create a modicum of volatility when not realised. The immediate checkpoint is the management of the forex outflow resulting from the redemption of FCNR (B) deposits which would be around $25 billion. In August 2013, when this swap facility was introduced, our forex reserves were around $276 billion, but are now higher by around $90 billion. Prima facie these outflows should not make a dent with limited volatility being witnessed in the interim period, just like what was witnessed when the Brexit vote was counted. The market however, will be keen to take a clue from the RBI stance on exchange rate.
There is always a compelling argument that a weaker rupee would be good for exports, and in case the rupee is allowed to move towards 68-69 to the dollar, it would be helpful for the cause. On the other hand if RBI ensures a smooth flow so that the rupee remains within the present band of upto 67, then the message will be that, even in the future, the central bank will work towards maintenance of stability in the exchange rate. RBI Governors somehow get typecast on their view of the rupee; this impacts future movements too.
The second issue that will keep everyone in the financial sector guessing is the conduct of monetary policy. There are already statements made that Urjit Patel is an inflation hawk—though one does not quite know what this can mean considering that there is an MPC (Monetary Policy Committee) in place which may constrain subjective judgments. The Urjit Patel Committee had conceptualised the creation of the MPC for setting goals on inflation where the CPI was chosen as the target indicator. Also, the band that was suggested has been ratified by both RBI and government, which really means that RBI would be targeting this rate irrespective of the personal bias of any Governor. Further, as the decision will be based on a consensual approach, the direction is clear. After all CPI inflation of 6% is an objective numbers and cannot be interpreted differently by anyone on the committee.
In a way, the thrust of monetary policy is a given, unless there is a new line of thinking which brings in the growth aspect through a sub-target. This way the twin objectives of growth and stability will be addressed. But this is unlikely to happen as the contours have been well-defined.
The interesting part of this episode will be in the direction of how the MPC functions and how the policy is presented. At present, RBI presents the policy and takes the final view on the content. With the MPC deciding now, the question would be whether it will be RBI or MPC occupying the dais and explaining the reason behind such action. Further, as RBI will be held responsible for the targets being met, how will it respond in case there are divergences for three quarters? Will further action be taken or would it be back to the MPC?
The third, and probably the most important, decision followed by action that would have to fructify pertains to the recapitalisation of PSBs. This is a ‘work-in-progress’, which has to be logically concluded and is the most difficult part of the exercise. The conundrum is that the public sector banks have high NPAs today and will not be touched by investors. Their asset books have to be cleaned fully before going to the market. Also, the government has to show willingness to give up its stake and bring it down to 51%. Disinvestment has always been a tricky exercise given the pricing problem which often leads to cross-purchase by public institutions of these stake-sales. Also it should be noted that for the kind of growth we are talking of, banks need a lot of capital and are woefully short of the same. As economic growth is still rather stagnant with investment not picking up, the system is able to adjust to the situation in a non-distortionary manner. But, once growth accelerates and investment demand increases, then the system may not be in a position to deliver. This has to be addressed in the next 1-2 years.
The fourth area will be the setting up of the public debt cell or PDMA. This has been on the agenda with several arguments in favour of either having such a specialised agency or continuing with RBI holding this responsibility. A resolution of the same would be likely during Urjit Patel’s tenure.
Liquidity management would be another aspect of RBI that could be debated, but considering that the central bank has opted already for moving away from LAF and relying more on OMOs, there is likely to be continuity here which is good for the market. As this has been decided in the earlier monetary policy review where Urjit Patel was also part of the consultations, it may be assumed that this would be business as usual.
One must understand that central banking is a fairly standardised business encompassing conduct of monetary policy, banking regulation and financial sector reforms to the extent that they are related to the banking sector (other regulators come in when insurance, stock markets or pension funds are concerned). The path is always well defined and while the central bank can address regulatory issues, which has been done in quite an exemplary way so far, when they get entwined with government policy (on disinvestment) the road becomes longer. With RBI and finance ministry setting the contours of monetary policy, there is less room for controversy to be stoked, which also brings in objectivity. It can also be assumed that initiatives on financial inclusion, new banks, market development, derivatives, etc would continue in the normal course of business.
Hence, just like there is continuity on Mint Street, the road map is the same with the central banks forcing these issues along the path so that resolution is quite seamless.
The author is chief economist, CARE Ratings Views are personal