An uneasy truce, but will it sustain
Mains Paper 4: Economic Development
Prelims level: RBI
Mains level: Indian Economy and issues relating to planning, mobilization of
development and employment. Inclusive growth and issues arising from it
- The Reserve Bank of India (RBI) signalled a truce on Monday after
a marathon nine-hour board meeting, agreeing, among other things, to allow
banks to boost lending to small businesses.
- The central bank also agreed to study a demand for transfer of its
reserves to the government, although it didn’t concede to the demand.
- Most will agree that this is an uneasy truce with much of the
friction that exists between the government and the central bank remaining
Analysing the situation
- It is a welcome step that the two warring parties have stepped
back from the brink and have agreed to find a middle ground.
- After days of open sparring and the government holding out a
threat to invoke the never-used Section 7 of the RBI Act that gives the
central bank’s board the power to take decisions in public interest, markets
will heave a sigh of relief that the hostilities between the two arms of the
government have ended, even if it’s temporary.
Comparing the situation with other countries
- Central banks everywhere, from Turkey to the US, are under
increasing pressure from the governments.
- While central bankers say that they need to be free from pressures
from the governments and lobby groups to focus on their job of containing
inflation and maintaining financial stability.
- Their critics say that they are too secretive and have leaned in
favour of big financial institutions over the interests of common citizens
they are duty-bound to serve.
Steps taken by the government
- The regulator is best placed to decide how much capital buffers
banks should maintain.
- The central bank did well to not bring down the capital adequacy
ratio in line with bare minimum levels prescribed under Basel III norms.
- Instead, it has provided an extra year for banks to implement the
capital to risk weighted asset ratio at 9%, giving the stressed public
sector banks a breather.
- Although deferring the implementation of the norm by a year to 31
March, 2020, will not breach international norms.
- The RBI had originally intended to meet the norms a year in
advance, Moody’s Investors Service on Tuesday termed the move as credit
negative for the country’s state-run banks.
- This potentially increases the cost of borrowings for Indian
banks, and highlights the perils of government tinkering with central bank
What RBI need to maintain?
- The RBI also seems to have held its ground on the contentious
issue of opening the liquidity tap for non-banking financial companies (NBFCs).
- Instead, the central bank said it would inject ₹8,000 crore into
the banking system through open market operations.
- This indicates that the government has failed to present
convincing-enough data to persuade the RBI to address the liquidity shortage
faced by NBFCs.
- The RBI made was to consider a scheme for restructuring of loans
to micro, small and medium enterprises (MSMEs) with a maximum borrowing of
₹25 crore on the advice of its board.
- Although much depends on how the RBI implements this, the move may
help alleviate the problems faced by thousands of small enterprises that
were hit hard by demonetization in 2016 and the implementation of the goods
and services tax the following year.
- The health of these small businesses is crucial for the government
in an election year and may help thaw the frosty relationship between the
two parties. India’s 65 million MSMEs employ as many as 120 million people.
- While tension between the government and the central bank is
inevitable with crucial elections due over the next six months.
- A healthy and functional relationship between the fiscal and
monetary arms of the government is necessary to maintain India’s long-term
economic growth and lift millions of its citizens out of poverty.
- As central banks the world over exercise powers that impact a
wider section of society, politicians are more likely to intrude into their
- Central banks have to work harder to maintain their independence.
Q.1) Consider the following statements about Non-Banking Financial Company
1. It cannot accept demand deposits.
2. It does not form part of the payment and
settlement system and cannot issue
cheques drawn on itself.
Which of the statements given above is/are correct?
(a) 1 only
(b) 2 only
(c) Both 1 and 2
(d) Neither 1 nor 2
Q.1) The compromise between the government and the central bank is a good
first step. Cortically analyse the statement.