In an interview, former RBI Governor Raghuram Rajan elaborates on his stint and nuances of monetary policy
Former RBI governor, Raghuram Rajan’s latest book, I Do What I Do: On Reform, Rhetoric and Resolve, was launched on Tuesday. Ahead of the launch he spoke to BusinessLine on a wide range of subjects from tackling the NPA mess and independence of the RBI to the controversies over his public speeches and demonetisation. Asked if he’d return to serve India in a higher position, he termed it “hypothetical”, and said there was no need for his services at this point, adding: “I’m happy being where I am.” Excerpts:
There is some criticism of the powers given to the RBI to direct banks to act against defaulters. Is it a good idea for the RBI to get into what is obviously the turf of banks?
Well, if you put it that way, the answer is that it is not the RBI’s job to make commercial decisions. The more into the nitty-gritty it gets, the more the RBI moves away from its traditional job as regulator. That said, there might be special circumstances in which, at least temporarily, it has been requisitioned to make decisions that the banks will not. Ultimately, the right resolution is to get bankers to make the commercial decisions that they have to make and not have either the government or the regulator to tell them what to do.
Is the move to get RBI actively involved born out of the realisation that banks are unwilling to act?
I think it is important that we clean up the banking system. When you push entities on to the bankruptcy court, you’re basically saying that the bankruptcy code and its process internally is going to decide what the clean-up is going to be. You’re not making the commercial decision yourself though triggering the bankruptcy code is itself sometimes a commercial decision. So, it’s a small step you’re taking from the central bank. If the central bank is also going to approve hair-cuts, this and that, and the extent of it, then it perhaps becomes going beyond what one could reasonably expect the expertise of the central bank to be. But yes, this probably stems from the banks themselves being unwilling to take the ultimate decisions partly for fear of being blamed when they take haircuts and so on.
What do you think of the idea of merging the weak banks with stronger ones to contain the NPA mess?
You have to be careful in any kind of merger that you don’t get a big weak bank! You’d hope that the strong bank would clean up the weak bank’s problems but there are very few banks without problems today in the public sector. So, the question you have to ask is are there any dangers in distracting the bankers once again with a new set of issues such as headache with mergers and so on, and not resolving the real problem which is cleaning up their balance sheets.
But there’s this argument that our biggest bank is small by global standards and hence not able to fund mega projects or assume greater risks…
That may well be but at this point your most urgent task is to clean up the banks and recapitalise them. Once they’re on an even keel you can worry about that decision. But tell me, which are the mega projects that are waiting there to get financed by the big banks? It’s not clear to me that our demand for investment is that strong right now. There might well be some obvious mergers, I haven’t been looking at this in close detail. But I wouldn’t use mergers as yet another way to escape the necessity for cleaning up and hope that somehow you put a stronger bank with a weaker bank and figure out a way to clean up. It’s not clear to me that we have that many strong banks to believe that process will magically happen.
There is a feeling that by setting a definite number for inflation and making the RBI answerable for it, the Centre has boxed itself into a corner as the Monetary Policy Committee is bound to focus only on that even in a situation of slowing growth, as is the case now. What are your thoughts on this?
I don’t want to comment on RBI actions but broadly, I think in any inflation-focused framework there is sufficient flexibility to accommodate adverse growth situations. If, for example, growth is likely to be very low because demand is inadequate for a sustained period of time, any inflation committee will take that into account, acknowledge that inflation will be lower than what it is currently and it will fall and as a result there is more room for monetary policy cuts. If an inflation committee doesn’t see that either growth is likely to plunk or the growth potential hasn’t fallen, that’s the only circumstance where it won’t cut.
The context is the slowdown in growth now and the MPC policy of holding to rates until August….
Well, you have three outside experts who understand all the factors that go into inflation, there are two inside experts, the governor and the deputy governor and then you have an executive director from the RBI. These are all pretty impressive people and I think one should let them decide.
Talking of experts, do you think the MPC is overweighted with academics and we need representation from industry and commercial banking?
That’s a fair issue for the Government to ponder upon. Inflation forecasting and setting policy rates with more technical expertise over time and you’ll find in a number of central banks a preponderance of academic or financial industry experts on the panel and relatively few business people because they don’t have as much of a sense of the process. After all, some of the criticisms are of forecasting. How do you rectify the difference of opinion if you don’t have a sense of how the forecasting is done?
Talking of interest rates, industry is always clamouring for lower rates even as savers complain that they’re not getting enough returns on their deposits with banks. In a country where the social security cover is poor, where do you think the balance lies?
I think keeping rates at a reasonable level which balances the needs of savers and borrowers is the ideal but we have to see over a period of time as to where that balance lies. If you keep real rates too high you’ll find investment plummeting and if you keep it too low you’ll find savings plummeting and you’ll run a large current account deficit. So you’ll have to work that out. I think you don’t have a fixed level. As a central banker, you’ve to keep looking at all the other data points and then make a decision.
You’ve written that the RBI governor should not be seen as another bureaucrat. You’ve also written of how bureaucrats try to undercut the central bank to protect their turf. What then is the metric to determine central bank independence?
Look, the central banker cannot be independent on every dimension. He’s ultimately a part of the whole administration. But things like monetary policy, supervision, warning about macro risks…these are where the central banker should feel that he has the ability to take whatever decision he needs to take. Some of it is legislated, like for example the monetary policy setting, and some of it becomes de facto that there is no attempt by the government to say “do this” or “do that”. I think over time we’ve worked out a reasonable balance on these things. I would say by and large the central bank is independent in India. Of course, every governor imposes his own personality on the central bank. If there’s one place that merits revisiting it is the term of the governor. Three years is probably at the shorter end of the spectrum in most central banks and I’ve said in a speech before that one should think of whether perhaps it should be extended. The Federal Reserve chairman has four years, at the ECB I think it is eight years; there’s a variety of possibilities but three years is in the shorter range of the spectrum.
But do you think a certain amount of creative tension is necessary between the Government and the RBI in the pursuit of policy?
Yeah, I mean, creative tension is fine. You can both tell each other, one side can say “do this on fiscal”, the other side can say “do this on monetary”. That’s fine. The problem is when it becomes uncreative and more a source of constant bickering. Both sides have to work on it and make sure that it doesn’t get to that situation.
Have there been instances in your term when you had to amicably agree to disagree with the powers-that-be in New Delhi?
There’s always situations like that, there’s always. But then I think both sides always recognise that you’ll have live with that kind of “agree to disagree” situation which I think speaks a lot for the maturity of the system.
Some of your speeches during your terms as governor led to adverse attention. If you were to give those speeches again now, do you think you would word them differently?
I don’t think so. I think that the alternative is not changing the speeches, the alternative is not speaking! Because, if you have a situation where people are looking for a certain angle, they’ll find it in whatever you say. The point is not what you say but the fact that you’re speaking at all; in fact, the fact that you’re governor at all! In that kind of an environment I don’t think there’s the easy option of speaking different things. As I said in the book, the challenge is to make sure that every word stands on its own taken out of its context. That’s an impossible challenge!
But then the issue was that you were different from other governors before you…
I have a different background from other governors. I don’t have a bureaucratic background. I think the closest to my situation was Dr C Rangarajan and he spent 10 years in the bank before becoming governor. So, in that sense, having somebody who comes from outside to the helm of the bank and is an academic and therefore is going to speak on matters that are academic, is different. I constantly checked myself to see that I was not in any way criticising the Government. You can look at the speeches word by word and you can see that there’s not a single criticism of the Government. As I said, you can pull things out of context. If I’m speaking for tolerance, you can say that he’s protesting against the government policy of intolerance. I never knew intolerance was a government policy! It has never been. You can always re-interpret speeches to put them in a light that you want.
So what you’re saying is that people wanted to show you in a particular light and hence pulled out parts of your speech and quoted them out of context…
Exactly, in a sense, the crowd that was blowing this up was precisely doing that.
You must be sick and tired of answering this question on demonetisation…
(laughs) Well, the answer is always the same.
But do you think the implementation could have been handled differently?
Look, I don’t what considerations went into fixing the time. Most monetary economists, on purely the monetary ground, would say that you should be ready to replace the transaction currency with an equivalent amount of new currency. We clearly were not in a position to do that because the RBI printing presses were running overtime for 3-4 months. So, if you ask about the specific details, that is really the primary question.
How do you see India’s economy at this point in time?
We’ve slowed down when many other countries are growing faster. Even China has picked up pace somewhat, the EU is doing very well… so we have to ask when the global environment is picking up why’re we slowing down. I would say the three important issues are the twin balance-sheet problem, the effects of demonetisation and the anticipation of GST. All three have contributed to a tepid private investment. But hopefully some of these things are behind us. Looking forward, we should see private investment pick up and some stronger growth in the economy.
You’re relatively young, experienced, been a central banker… Is it right for me to assume that at some point in the near future you’ll return to India to a more powerful position?
It’s a good question, a hypothetical one. I said in my letter to the RBI that I was open to coming back to work for the country if and when it needs me. At this point there’s no such need and I’m pretty happy working where I am.
In the realm of ideas?