An imprudent plan to hijack monetary policy control
A commission on financial reforms has released a draft Indian Financial Code with recommendations which, if accepted, would weaken the RBI Governor's role in monetary policy formulation.
Headed by Justice BN Srikrishna, the commission has invited public comments on its recommendations, which broadly aim to provide a single unified law for the financial sector.
What has caused concern is its recommendations that a seven-member committee should decide on interest rates and four of its members should be appointed by the government, and that the Governor will no longer have the veto power on RBI decisions. Decisions will be by a majority vote and binding, and in case of a tie, the Governor will have a second vote. In an earlier draft report the commission had retained the Governor's veto power.
The two recommendations have given the government an edge in decision-making. It means the government's view will prevail on monetary policy and the autonomy of the RBI and its Governor will get diluted. The RBI and the government have often taken contradictory stands on whether to lower interest rates to spur growth or hike them to control inflation. In fact, finance ministers have often publicly tried to influence the RBI Governor to toe their line on interest rates. Governments and the RBI are often under pressure from corporates to lower their borrowing costs by reducing interest rates. Cheaper loans for individuals push demand for consumer durables, autos and houses, while companies get an incentive to produce more. That is what the theory suggests. In practice, governments hope that growth will pick up as also the political fortunes of the ruling parties.
Even though the RBI Governor is appointed by the government, he usually acts independently and professionally, and does not let the Finance Minister of the day dictate terms to him. The RBI Act ensures sufficient autonomy to the Governor. Since it is the duty of the Governor to manage inflation, the power of shaping monetary policy cannot be vested with the government. As an institution the RBI earned praise for its supervisory role during the 2008 global meltdown. It will be unwise to make it toothless.
A commission on financial reforms has released a draft Indian Financial Code with recommendations which, if accepted, would weaken the RBI Governor's role in monetary policy formulation.
Headed by Justice BN Srikrishna, the commission has invited public comments on its recommendations, which broadly aim to provide a single unified law for the financial sector.
What has caused concern is its recommendations that a seven-member committee should decide on interest rates and four of its members should be appointed by the government, and that the Governor will no longer have the veto power on RBI decisions. Decisions will be by a majority vote and binding, and in case of a tie, the Governor will have a second vote. In an earlier draft report the commission had retained the Governor's veto power.
The two recommendations have given the government an edge in decision-making. It means the government's view will prevail on monetary policy and the autonomy of the RBI and its Governor will get diluted. The RBI and the government have often taken contradictory stands on whether to lower interest rates to spur growth or hike them to control inflation. In fact, finance ministers have often publicly tried to influence the RBI Governor to toe their line on interest rates. Governments and the RBI are often under pressure from corporates to lower their borrowing costs by reducing interest rates. Cheaper loans for individuals push demand for consumer durables, autos and houses, while companies get an incentive to produce more. That is what the theory suggests. In practice, governments hope that growth will pick up as also the political fortunes of the ruling parties.
Even though the RBI Governor is appointed by the government, he usually acts independently and professionally, and does not let the Finance Minister of the day dictate terms to him. The RBI Act ensures sufficient autonomy to the Governor. Since it is the duty of the Governor to manage inflation, the power of shaping monetary policy cannot be vested with the government. As an institution the RBI earned praise for its supervisory role during the 2008 global meltdown. It will be unwise to make it toothless.
