Relations between central banks and governments have never been easy anywhere. India is no exception. The demonetisation decision has led several observers to express concern about the autonomy and institutional integrity of the RBI. Government directing the RBI on such matters and RBI acting accordingly is being seen as an infringement on its autonomy.
Reserve Bank of India, the central bank of the country is an autonomous organization responsible for all the key monetary roles like Monetary controls, money supply regulation, foreign exchange, apex lender to Government, a bankers’ bank among others. RBI was created and is governed with the RBI Act and as such is a statutory autonomous entity. RBI has 3 main roles in which it acts as an autonomous body free from the interference of the government
- Ensuring low and stable inflation
- Debt management
- Regulation of the banking system
The RBI governor should be responsible and accountable to Parliament and not to a particular government or the ministry of finance, or minister. He can testify to Parliament twice a year. In separate testimony in both houses of Parliament, the lawmakers can ask questions of the RBI Governor and the latter can respond.
Section 7 of RBI Act 1934
The Section 7 gives powers to the government to seek consultations with RBI. If necessary, the Government may issue certain binding orders on RBI in public interest. Despite keeping its existence in RBI Act, this section has never posed any threat to RBI Autonomy earlier as it has never been invoked even during the times of Wars fought with Pakistan and China; during the adverse balance of payment crisis or even during the period of demonetization that happened on November 8, 2016. However, in October 2018, the Ministry of Finance, Government of India moved to invoke Section 7 of the RBI Act.
Deputy Governor’s view
The rift between the Central Government and the RBI grew after the RBI Deputy Governor Viral Acharya said in a speech on October 26, 2018, that undermining a central bank’s independence could be “potentially catastrophic”, an indication that the regulator is pushing back hard against government pressure to relax its policies and reduce its powers.
Acharya also said that “Governments that do not respect central bank independence will sooner or later incur the wrath of financial markets, ignite an economic fire, and come to rue the day they undermined an important regulatory institution”
Autonomy – affected
- United Forum of RBI Officers in a letter to RBI Governor had said employees were feeling “humiliated” by events since demonetisation
- They alleged that the government has been impinging on the central bank’s autonomy by appointing an official for currency coordination.
- Three former governors — Manmohan Singh, Bimal Jalan and Y V Reddy — flagged concerns about the central bank’s functioning.
- Former deputy governors, including Usha Thorat and K C Chakrabarty too have voiced their worries.
- According to a paper published in the International Journal of Central Bankingin 2014, RBI was listed as the least independent among 89 central banks considered under the study.
- HC in its order Asks Government Not to Issue Directives to RBI
Autonomy has not been affected
- As per RBI Act, the Central Government may from time to time give such directions to the Bank as it may, after consultation with the Governor of the Bank, consider necessary in the public interest .The reason behind this clause is so that any major decisions are made by the government which is elected and hence accountable to the people.
- The decision to demonetise high-denomination currency was taken by the government in public interest after consultation with the RBI
- The RBI board simply performed its duty by implementing the decision.
- The separation of debt management from the RBI is not an assault on the RBI’s independence by the government.
- Instead, it is to remove the conflict of interest that exists in the RBI’s functions of setting interest rates, and management of the government’s debt.
- There has not been any assault on the RBI’s autonomy — in the setting of interest rates or in the regulation of banks or in other operational spheres.
- As government is the owner of PSBs, government’s interference is justified in case of disbursal of loans from PSBs.
- Consultations between the government and the RBI are undertaken on various matters of public importance wherever such consultation is mandated by law or has evolved as a practice.
Any deviation in the autonomy of RBI could lead to a possible downgrade of the country’s rating and would have an adverse impact on the economy. There have been times when the RBI and the Central government had a tussle. One governor resigned in protest. One governor was forced to step down.
Overall, however, the RBI and the Central government respected each other’s jurisdiction and learnt to work with each other. There is need to pay due regard to both autonomy and accountability.