Interest rates, NPAs
27 May 2016 10:33 PM GMT
Reports indicate that the NDA government will keep its options open on a second term for Reserve Bank of India Governor Raghuram Rajan. When asked about it at a recent government function, Finance Minister Arun Jaitley remained non-committal. But Jaitley also said that he does not approve of attacks on the RBI Governor. It has become important to gauge the government’s position in view of BJP’s Rajya Sabha member, Subramanian Swamy’s letter to Prime Minister Narendra Modi last week, which listed out reasons why Rajan should not be given a second term. “The reason why I recommend this is that I am shocked by the willful and apparently deliberate attempt by Dr. Rajan to wreck the Indian economy,” the senior BJP leader wrote, adding that his concept of raising interest rates to contain inflation was “disastrous.” Also, bad loans with public sector banks have doubled to Rs 3.5 trillion in two years during his tenure, he said. On Thursday, the BJP leader maintained his line of attack. Accusing Rajan of raising the interest rate to the detriment of small and medium industries, he said that the governor should have known the “inevitable consequence of rising and high-interest rate and his policy was willful and thus anti-national in intent”. His missive on interest rates and bad loans are bereft of sound reasoning. Swamy argues that fighting inflation with high interest rates is disastrous. One of the primary tools that a central bank has to tackle inflation is its ability to raise interest rates. T
urkey recently tried to tackle high inflation with low interest rates. The results have been disastrous. The notion that small businesses are uniquely hurt by high interest rates has not been substantiated by the data available. Recent data from the Ministry of Corporate Affairs indicate that small enterprises are in fact doing better than their larger counterparts. Meanwhile, bad loans have doubled over the past two years only because the RBI governor has forced banks to recognise them. The only plausible justification for the senior BJP leader’s recent missive on interest rates was presented in a recent column by Rahul Menon, an Assistant Professor in the Department of Economics at St Xavier’s College, Mumbai. “The question is, if workers were willing to accept the dangers of potential inflation in exchange for the surety of better growth and employment outcomes, does the current structure of monetary policy allow for their preferences to be heard? The independence of Central Banks, much praised for ensuring economic stability, can actually stand in the way of democracy at a time when the goals of the monetary authority stand directly opposed to the preferences of the people,” he wrote.
But then he goes on to argue that an independent central bank is needed to protect the economy from a government, which seeks to achieve short-term political goals through monetary expansion. Nonetheless, if critics are looking to blame someone for India’s sluggish growth, it need not look any further than the government. Both external and domestic demand are low. One could attribute falling external demand to global macroeconomic conditions. However, lapses by the government in expediting MGNREGA payments at a time of drought and its obsession with reducing the fiscal deficit have only contributed to the government’s inability to spur domestic demand. To the uninitiated, Rajan’s term end in September 2016.
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