First, a new governor of Reserve Bank of India was appointed and, in a symbolic departure from past practice, the new incumbent went across directly from the finance ministry. Then, a new ‘liquidity committee’ was set up, chaired by the finance secretary. Now, a new economic advisor with a strong background in finance has been appointed in the Prime Minister’s office. A day later, the finance minister calls the heads of the state-owned banks with the intention announced in advance that he wants bank lending rates to drop. On cue, immediately after the meeting, one bank chief after the other announces interest rate cuts.
If you thought the country’s monetary authority was RBI, may be it is time to think again. The pattern is too obvious not to be noticed—the real decision-makers are now in the central secretariat in New Delhi. RBI remains the statutory authority, but it is an open secret that the man in charge is P Chidambaram. A peskily independent RBI governor has retired, and a strong-willed finance minister has made sure that he will not be faced with another situation where his views are either ignored or not acted upon.
Intertwined with the play of individuals and new institutional arrangements is a sharp ideological divide. On the one hand are economists and committee chairmen (Raghuram Rajan and Percy S Mistry) who argue the western orthodoxy that RBI should focus on a single objective, namely achieving a target rate of inflation. They usually oppose central bank interventions in the currency market to smoothen out currency movements, they want quicker movement towards capital account convertibility, greater integration with global financial markets and the introduction of more sophisticated financial instruments. Over the past year and more, some of the economists kept up a relentless media attack on Dr Reddy’s RBI, portraying it as ignorant, obfuscating and/or antediluvian. RBI’s policies have been seen as retarding growth, adding to inflation and increasing currency instability while stopping the development of financial markets and indeed the financial sector.
The counter-view has been that the financial crisis that has gripped the western world is not an advertisement for financial integration, that India can do without the periodic financial crisis that has consumed other developing countries with open capital accounts, and that the opening up of the financial sector is in any case constrained by rising fiscal and current account deficits. In defence of Dr Reddy’s policies, it is argued that they have given the country high growth, low inflation and a foreign exchange cushion that is a result of RBI intervening in the currency market. Further, the western orthodoxy on central bank goal-setting has already given way to more creative, ad hoc and ideology-free positions. Just as those holding the first view see the Reddy years in RBI as a disaster, the counter-group thinks that the country should be grateful to Dr Reddy for what he believed in and acted upon.
With Dr Reddy not on the scene, with Mr Chidambaram having wrested the freedom to impose his writ, and with economists in place who belong to the integration-convertibility school of thought, it remains to be seen how much short-term currency management will swing around, and to what degree longer-term policy will change in the six months that the government has before elections become due. Whatever the answers to these questions, and irrespective of which ideological position anyone may hold, RBI’s autonomy is the casualty of the new constellation of forces and the new institutional arrangements.
