Context: RBI Board Meeting to be held on 19th November 2018
Reserve Bank of India:
The Reserve Bank of India (RBI) is India’s central bank, also known as the banker’s bank. The RBI controls monetary and other banking policies of the Indian government.
The origins of the Reserve Bank of India (RBI)
- 1926: The Royal Commission on Indian Currency and Finance recommended creation of a central bank for India.
- 1935:The Reserve Bank of India (RBI) was established in accordance with the Reserve Bank of India Act, 1934.
- 1949: The Government of India nationalised the Reserve Bank under the Reserve Bank (Transfer of Public Ownership) Act, 1948.
Functions of RBI
The Preamble to the Reserve Bank of India Act, 1934 (the Act), under which it was constituted, specifies its objective as:
- To Regulate the issue of Banknotes
- To Secure monetary stability in India
- To Modernise the monetary policy framework to meet economic challenges
The major functions of RBI are as follows:
- Monetary Policy: The core function of RBI is formulation and implementation of monetary policy with the objectives of maintaining price stability and ensuring adequate flow of credit to productive sectors of the economy
- Issuer of currency: The RBI is responsible for the design, production and overall management of India’s currency
- Regulation and supervision:
- RBI’s regulatory and supervisory domain extends not only to the Indian banking system but also to the development financial institutions (DFIs), non-banking financial companies (NBFCs), primary dealers, credit information companies and select segments of the financial markets
- The RBI designs and implements the regulatory policy framework with the aim of providing people access to the banking system, protecting depositors’ interest, and maintaining the overall health of the financial system.
- Banker to Banks: As Banker to Banks, the Reserve Bank focuses on:
- Enabling smooth, swift and seamless clearing and settlement of inter-bank obligations.
- Providing an efficient means of funds transfer for banks.
- Enabling banks to maintain their accounts with the Reserve Bank for statutory reserve requirements and maintenance of transaction balances.
- Acting as a lender of last resort.
- Banker to the government: It performs various banking function such as to accept deposits, taxes and make payments on behalf of the government. It works as a representative of the government even at the international level.
- Foreign Exchange Reserve Management: The RBI focuses on:
- Maintaining market’s confidence in monetary and exchange rate policies
- Enhancing the Reserve Bank’s intervention capacity to stabilise foreign exchange markets.
- Limiting external vulnerability by maintaining foreign currency liquidity to absorb shocks during times of crisis, including national disasters or emergencies
In India, the government deals with fiscal policy while the central bank is responsible for monetary policy. Fiscal policy deals with the taxation and expenditure decisions of the government. Monetary policy, deals with the supply of money in the economy and the rate of interest.Both the Government and the Central Bank, in their functioning, are guided by public interest and the requirements of the Indian economy and seeks to maintain financial stability in the country.
Note:The RBI is not statutorily independent, as the governor is appointed by the government. However, it has enjoyed broad autonomy in regulating the banking sector
Centre- RBI Conflict
Recent Areas of Confrontation:Recently, the RBI and Centre have been at conflict over a number of issues-
1.Fund Flow to NBFCs: The government wants the RBI to help ease the liquidity squeeze that has been gripping non-banking finance companies (NBFCs), whose operations have been hit by the IL&FS crisis. However, the RBI is of the opinion that the cash crunch has already eased
2.Prompt Corrective Action: The government wants RBI to relax the prompt corrective action (PCA) regime for NPA-laden banks. The RBI had tightened the PCA that restrict lending and expansion of weak/ NPA-laden banks. The government wants rules to be aligned with global norms so that the credit flow is not hit.
- The conflict between RBI and Centre widened when RBI issued circular in Feb 2018 which directed banks to acknowledge every loan delayed beyond the 90th day as a non-performing asset (NPA) and provision for it. This alone raised India’s NPAs by nearly 25% to over Rs 10 lakh crore.
- Funds to MSMEs: The government has been seeking more loans, easier norms for small businesses. However, the RBI has been reluctant in doing so
- Payment Regulator:An inter-ministerial committee set up by the government recommended that India’s payments ecosystem should be regulated by a new institution, a payments regulatory board, rather than the RBI.RBI considered it as an attack on its powers and an attempt to curb its power.
- Adequacy of RBI Reserves: The government alleges that the RBI keeps more reserves than any other central bank and wants discussions to be held on the matter. However, RBI is concerned over its corpus fund to be used for pre-poll spending of the government
- Role of Board: The government wants the decision making to be done by the Board as RBI top officials have been largely unresponsive to Centre’s demands. However, RBI management believes that monetary policy and financial sector regulation should be left to the experts.
Invoke of Section 7 of the RBI Act, 1934:
The government invoked hitherto unused Section 7 of the RBI Act to open consultations with RBI on several issues of current importance. Experts are of the opinion that this would curb RBI’s Autonomy.
- Since, Centre is the spender and the RBI is the creator of money, and there should be a natural separation between the two. If the autonomy of the RBI is jeopardized, it may have an adverse effect on the independent monetary policy and overall financial stability of the economy.
- The Central Bank’s ability to act without interference is essential for the confidence on Indian economy at international forum. Recently, Turkish President Erdogan allegedly tried to undermine the independence of Turkish Central Bank which consequently led to fall in value of Lira.
- The RBI should pursue greater transparency and implement robust communication policies to restore government’s confidence.
- The government should appreciate the RBI’s expertise and its deft handling of earlier crises while refraining from interfering in the policymaking