RBI being in news these days, few questions pops up in our mind. Does the payout damage the credibility of the Reserve Bank of India as an independent central bank? Where do the central bank’s earnings come from? In this article we are going to explore these questions about RBI in its length and breadth.
Where it all started?
It was on August 26, when the Reserve Bank of India (RBI) central board decided that Rs. 1.76 lakh crore to be transferred to the government (which also includes a sum of Rs. 52,637 crore from its contingency reserve). This move was likely to look into the Central government’s uncertain fiscal situation. As identified under a new Economic Capital Framework (ECF) adopted by the RBI board.The transfer amount included the dividend payment of Rs. 1.23 lakh crore, and funds from its reserves. A committee chaired by former RBI Governor Bimal Jalan was formed to review its ECF last year.
Why this year RBI has a different payout?
Normally, RBI use to transfer that money in its balance sheet to the central government that it deems to be out of its operational and contingency needs. But, this year the amount of funds which is transferred by the central bank (RBI) to the government is very much higher than its transfer last year (approximately 146.8% more than what it had paid out last year when it transferred Rs. 50,000 crore as dividend as compared to Rs. 1.76 lakh crore this year.) Even the highest amount of surplus funds being transferred by the RBI in previous years (Rs. 52,683 (2013-14); Rs. 65,896 (2014-15); Rs. 65,880 (2015-16); Rs. 30,659 (2016-17) and Rs. 50,000 (2017-18)) to the central bank were lower than that of this year.
What is the controversy involved?
The major concern that has came up in the forefront is that the government might be confiscating money from the RBI to meet its urgent spending needs. This is what is turning the central bank into a government’s piggy bank where it can store money to meet their unforeseen spending needs. Generally, the central banks such as the RBI, are supposed to be independent from all forms of influence from the government and its agencies. But, in reality, governments across the world try to influence decision-making by their respective central banks in multiple ways. When it comes to appoint members to the central bank, such as the post of Governor, the governments always tends to pick those bureaucrats who have been and will be loyal to them. The move to get the RBI to let go a portion of its accumulated reserve is also viewed by many as part of a wider campaign by the government to limit the powers of a number of independent regulatory bodies. The government’s move in July, when it amended the Finance Bill to ensure that the SEBI transferred surplus funds in its custody to the government, is also argued as the compromise with the independence of regulatory institutions such as RBI and SEBI by stripping their financial assets.
What are the ways in which RBI earn money?
There are multiple ways with RBI to earn money. Some of these are:
- Open market operations, in which a central bank purchases or sells bonds in the open market in order to regulate money supply in the economy and is considered as the major source of RBI‘s income.
- Favourable changes in bond prices may also profit the RBI, apart from the interest received from these bonds.
- Dealings in the foreign exchange market that the RBI engages in may also contribute to the profit of the central bank. For example, RBI may buy dollars cheaply and sell them in the future to make profits.
It should kept in mind, however, that the primary objective of the RBI is not to earn profits but to preserve the value of the rupee. These profit and loss are merely a side effect of its regular operations to shape the monetary policy.
Is it true that the RBI’s powers are being diluted?
If we talk about the transfer of surplus funds, the primary issue is the damage that it cause to the RBI‘s credibility as an independent central bank. The steps of the government since last year to continuously dilute the powers of the RBI has been under criticism. Even last year only, the government had attempted to convince the central bank to part with more than Rs. 3 lakh crore from its reserves. A committee was appointed by the government which was headed by Mr. Bimal Jalan to overtake the economic capital framework. It was argued by the government that the quantum of reserves accumulated by the RBI over the years was far beyond the needs of the central bank. This was the reason for the conflict between the government and the then Governor of the RBI, Urjit Patel, following which he resigned from his post last December. There are some who believe that the government will still figure out some way to get hold of the initial corpus of funds that it wanted from the RBI, but over the next few years while others have raised concerns about the RBI’s ability to meet emergencies with its now depleted reserves. RBI being the sole and sovereign issuer of the rupee, there is effectively no limit to the amount of rupees that the RBI can create to deal with an emergency. But, the real impact that this forced transfer of funds will have is on the independence of the RBI in setting up the monetary policy. The transfer of surplus reserves to the government is nothing but a forced entry of extra liquidity into the economy. Therefore, the increased demand to meet the fiscal needs of the government will thus compromise the ability of RBI to fulfil its primary objective i.e., to preserve the value of the rupee by controlling the inflation, by observing full and final control over the supply of rupees in the wider economy.
What is to come ahead?
It is highly expected that the government will achieve its 3% fiscal deficit target this year with the help of these surplus funds from the RBI. Is is also expected that these fresh funds will help the government to spend more on any fiscal stimulus plan that it may decide to implement in order to check the slowdown in the economy. But, it should be noted that the transfer of money from the RBI to fund government spending will increase the amount of money supply in the economy, which will exert an upward pressure on prices. Thus this transfer of surplus funds from the RBI to the government could effectively turn into a monetary stimulus for the economy which has been slowing down for several consecutive quarters.