Resolving the dissension

It all ended in a whimper. The government and the Reserve Bank of India had been publicly disagreeing on a number of issues which were thought to be so serious as to bring forth resignation of the RBI Governor Urjit Patel. The battle was to be fought out at the board meeting of the Governors on November 19.

In the end, nothing happened. The issues were sorted out in a rather give-and-take mode. RBI agreed to climb down from its hardline approach that there was no dearth of liquidity. The government did not press on for a share of what it had felt as excess money with RBI.

There was no dearth of well-wishers who had bargained for the face-off so that in its aftermath the whole scenario could be turned into a political controversy over the capture of RBI by the union government. Since last morning none else than Rahul Gandhi, president of Congress, had been leading this campaign and crowing and urging the RBI governor to demonstrate "he had spine" and confront the prime minister in his attempt to control the RBI. Dr. Patel did not comply with Gandhi and his ilk. Disappointing the Congress president, Urjit Patel, rolled out perfectly sensible solutions to the points of disagreement.

There were three issues of disagreement between the Reserve Bank of India and the government. First, the government had contended that following the defaults of the IL&FS, India's largest non-banking finance company, credit flows had got frozen and the NBFC were no longer lending money. This was affecting the working of the small and medium sector units. RBI had maintained there was enough liquidity in the system.

Secondly, a related issue was the RBI restrictions on banks having a large portfolio of bad debts from extending further loans. This was further aggravating the liquidity crisis and, in effect, impounded large amounts of funds.

Thirdly, and hugely bloated, differences between RBI and government on apportioning of the large reserves held by the Central bank. The Union government had contended that RBI was holding disproportionately large amounts of funds in its reserves and a part of that hoard —some Rs 3.5 lakh crore— should be handed over to the government.

Of the three issues what mattered most was liquidity, that is, RBI lubricating the system with a fresh infusion of credit. Credit is important because that is the buying power, providing the productive system with the means to carry on.

On the RBI's own assessments, "systemic liquidity" –that is the availability of credit for the productive active activities—was alternating between surplus and deficit during the two-month period of August to September. Thereafter, liquidity was under pressure as the uncertainty increased following IL&FS imbroglio.

In fact, a credit freeze now would have throttled the industrial sector badly, when these were showing signs of life again. At the October monetary policy statement, RBI had noted that industrial production had accelerated in June-July on the back of a strong uptick in consumer durables, auto components and spares, and several others. But high-frequency indicators were showing signals of a slack in pace.

Moreover, the issue was not only scarcity of funds as such. But more, it was a crisis of confidence among non-banking finance companies and other intermediaries in taking up fresh lending. This was impinging upon the ability of these set of borrowers — mainly MSMEs — to carry on their normal levels of activity. All that was needed was an expression of assurance from the RBI that genuine credit needs would be met.

Once the RBI piped down from its hardline approach to credit, it was not too much for the government to accept that its point about sharing what was considered to be excess funds in RBI free reserves should not be decided on an ad hoc basis but on the recommendations of an expert group.

In a way, that pushes back the question of a division of the accumulated reserves for the time being. In all likelihood, it will not be the present government, but some future government which could get the benefit of that bonanza. For all one knows, BJP might then oppose any such squandering of RBI assets.

But for those who were following these contentious issues, the third point about claims on funds was actually made up and the government was at no point seriously demanding immediate handing over of a large stash of RBI cash.

Now that we have the advantage of hindsight, the so-called fracas between the RBI and the government was the result of a misconceived public speech delivered by Viral Acharya, Deputy Governor, who somewhat dramatically described the differences in points of views as comparable to breaking down of relations and government attempts at eating away RBI autonomy.

He had stated that government attempts to control the RBI were fraught with serious consequences and the financial markets would punish the efforts, including, as he stated sharp erosion in the value of the rupee.

Instead of the financial markets punishing, their behaviour has been rather rewarding. Contrary to the prediction of Dr. Acharya that the rupee will severely depreciate on any attempts at eroding RBI's independence, it has appreciated substantially since and could possibly re-enter the Rs 60 plus zone to the dollar. Following the speech by Dr. Acharya, it was speculated either the RBI Governor will resign in protest along with Dr. Acharya or else RBI will dig in further and refuse to budge from its standpoint and concede any of the government demands.

Now that none of that fireworks happened, and the two so-called warring sides agreed to accommodate the other's points of new, there is a relief. A lingering question however remains. What will happen to Deputy Governor Viral Acharya? Given his strident criticism of the government and open assertion that the government was denting RBI autonomy, the policy fine-tuning agreed at the board remains a loud rejection of his central thesis. The question is: Will Dr. Acharya stomach all that and remain in RBI or would he prefer to go back to groves of his academy?

(Views expressed are strictly personal)