As usual Reserve Bank of India (RBI) is facing the growth-inflation conflict in recent times in its monetary policy outlook. The difference in its monetary policy making now and before June 2016 is in terms of singular decision making by RBI Governor vis-à-vis collective decision making by the Monetary Policy Committee (MPC). However, the collective decision making by MPC is still evolving in India given that MPC is yet to complete one and half year in its existence. In the recent two instances of working of MPC, on December 6 and October 20, 2017, the divergence or consensus of views in the Committee were entirely different, which emanated from the agreements and disagreements about the economic situation of the country. While the latest December 6 bi-monthly monetary outlook has been mostly based on consensus over maintaining a repo rate of 6 per cent (with one divergent view in favour of rate cut of 25 basis point), the October review was widely divergent with sharp disagreements over monetary policy stance on interest rate. In October review, though the five members had voted in favour of keeping the policy rate unchanged, one member had argued for steep cut while another had argued for tightening the rate.
The current December 6 monetary policy review has raised the inflation forecast from 4.3% to 4.7% in Q3 and Q4 respectively in the current fiscal while maintaining the growth forecast for this fiscal at 6.7%. RBI has maintained the ‘neutral policy stance’ for inflation targeting in December as it was done in October. The October inflation target was however kept low at 4.2% to 4.6% till end of this fiscal, which is raised now with common agreement on rise in inflation risks due to several reasons as likely sustenance of crude oil prices, fiscal pressure due to farm loan waivers as well as decline in revenue due to restructuring of GST rates and partial roll back of Excise/VAT duty on petroleum products. October policy review was made under uncertain economic conditions emerging from manufacturing slow down, hurried implementation of GST and question over recapitalization of banks and the amount of stimulus for the economy, whereas the current December review bases on economic uncertainties, which are little less with announcement on economic stimulus and bank recapitalization fund, bounce back of economy with quarterly GDP growth rate of 6.3% first time after several quarters since demonetization (since 3-year low of 5.7%) and relative improvement in international rating, and ease of doing business ranking (30 notches jump from 130 to touch 100th position for the first time).
RBI’s main task traditionally has been to manage the interest rates, manage inflation within expected range, managing exchange rate within a defined band, managing the currency system and above all ensuring the stability of India’s financial system along with a consistent level of economic growth. Earlier the entire onus fell on the shoulders of the RBI Governor. But now under the Monetary Policy Committee the system of shared responsibility prevails under a carefully considered wisdom guarded by expert members of the MPC.
Given the premise of Board of Financial Supervision, the formation of MPC was recommended by Y.V. Reddy Committee and subsequently, Tarapore Committee (2006) and Rakesh Mohan Committee and Raghuram Rajan headed Committee on Financial Sector Reforms (2009) too extended their support for active role by MPC in Indian Monetary Policy making process. Though RBI has enjoyed relatively long period of autonomy in financial decision making in India, there was always a subtle and sometimes alleged government attempt to control its autonomy as reflected in the conflict between the Central Bank and the Finance Ministry on issues of disagreements over deregulation of interest rates, the range of inflation targeting and the perceptions over growth horizon and the right time and mechanism to achieve it.
The frequent disagreements between the RBI and Central government paved the way for the MPC- the Financial Sector Legislative Reforms Commission 2013 (FSLRC) and Urjit Patel Committee suggested a combination of members from RBI including the governor and the deputy governor and some external members, appointees by the Central Government, which finally settled at three members from RBI and three members from government. RBI Governor acts as the head of the Committee with deciding vote in case a tie in taking decision. Thus, the argument for creating a Monetary Policy Committee was based on the ground for a more transparent and well considered monetary policy making process, accommodating the views of Central government as an internalized process instead of the seeming external thrust from outside on the Central bank.
Formation of MPC is criticized by some as the process of diluting the autonomy and exclusive powers of RBI. However, it is to be remembered that another side of the argument also exists where the autonomy of RBI is viewed as the autonomy of the Governor of RBI. In that sense, it will not be good for monetary policy making for India. But what has been observed in Indian monetary policy making is a great degree of autonomy exercised by its Governors, well for the greater common good of the inflation targeting primacy enshrined by RBI’s mandate. Former RBI Governor Y.V. Reddy’s period had been one of the zeniths of RBI’s autonomy. Successive Governors have put the argument that a country’s fiscal and monetary policy should be separated as both areas are based on theoretically separate premises and both work well if allowed separate functioning without interventions from each other. However, it seen globally that despite intended theoretical premises of separation of fiscal and monetary policies, it is the fiscal policy which has dominated the monetary policy in various countries- albeit in lesser degree in US. It is, as T.C.A. Srinivasa Raghavan comments in his book Dialouge of the Deaf about the argument made by a former Bank of England Governor Montagu Norman (1920-44), comparing the role of RBI like a Hindu wife living in a joint family- a suppressed entity willing to act as per the demands of her husband and his family.
Many instances of curtailment of RBI’s autonomy have come to the fore in the past. Foremost being the resignation of Sir Osborne Smith, the first governor of RBI, due to alleged excess political intervention, lack of autonomy and difference in views concerning levels of exchange rate and interest rates. Resignation of another Governor B. Rama Rau in 1956 from RBI and introduction of ad-hoc Treasury Bills leading to printing of notes in the same year under instruction from above to finance public expenditure at negative real interest rates, also points in the same direction. Exit of Raghuram Rajan from RBI (though after completion of his term) over policy differences between the Central government and RBI, and the recent hectic decision of demonetization thrust by Central government are criticized by leading economists as curtailment of RBI’s autonomy.
In this sense, many economists and policy makers welcome the formation of MPC and the relatively independent and collective decision making on monetary policy. Former RBI Governor Raghuram Rajan had observed, “Past Governors have been people of strong integrity and have been independent, but I think it is possible to influence or pressurize or even convince one person. But it’s harder to convince a panel. Therefore, MPC can be a little more independent than a person can be.” (Firstpost, December 05, 2017) Many countries do have MPC- England, USA, Japan, Australia, and also the European Union. In certain countries, decisions are reached by consensus- like Australia or even in European Central Bank, effort is made to reach a consensus on policy matters despite 25 country members’ voting on issues. MPC in Japan has not been much successful to resolve problems of its negative interest rate policy. But MPCs cannot entirely be said to enjoy relative independence, as in countries like Norway and USA, government prevails over monetary policy. This is same in the case in Philippines and South Korea.
As growth-inflation conflict continues, MPC’s workings in India will be tested in times to come. T.C.A. Srinivasa Raghavan has rightly observed that “Monetary Policy is an intensely political aspect of economic governance.” And in India, governance is extremely political including issues on inflation, which affects the common man and the middle class the most, and which can define the entire gamut of political environment in the country.
Corresponding Author: Shri Manoj Kumar Sahoo is a Faculty of Economics, School of Liberal Studies, Pandit Deendayal Petroleum University, E-mail: firstname.lastname@example.org