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Rajan firm on financial inclusion

The maiden monetary policy review by the celebrated economist and new Governor of the Reserve Bank of India (RBI) Raghuram G Rajan has turned out to be a mixed bag. India Inc. predictably inveighed against his unexpected move to hike the benchmark repo rate by 0.25 percentage points with immediate effect to keep ‘worrisome’ inflation under leash but which had the markets tumbling down. However, the larger picture he portrayed in a seven-page statement left many discerning people quite convinced that the country’s banking system would be safer under his watch, if only the political dispensation desists from abridging his autonomy through open and hidden diktats.

Be that as it may, a particularly noteworthy facet of the governor’s presentation pertains to his open statement that ‘we need to reduce the requirement for banks to invest in government securities in a calibrated way.’ With a barrage of scams and scandals besmirching the banking industry’s reputation for being lenient towards big borrowers, including corporate and politically connected clientele from trade and industry and other segments of the economy, the banks had found it quite convenient to take recourse to lazy banking by parking their funds in the safe haven of government securities (G-Secs) instead of running the risk of lending to even worthy sectors or start-up companies with promises to succeed. In fact, the preemption of gargantuan funds in G-Secs by the banking industry has also enabled the ruling dispensation to play ducks and drakes with any number of populist and sob-laden schemes of dubious nature with no durable benefit to targeted beneficiaries because of the poor delivery mechanism and the attendant wastage it entailed.

Though Rajan conceded that the reduction in the rider for banks to invest in G-Secs cannot be done overnight, he did believe that as government finances improve the scope for reductions will increase. But the onus is on the government to ensure that its finances do improve so that it skirts the easier option of banking on the safe haven funds invested in G-Secs. This could be accomplished only when the finance minister and the prime minister on the one hand and the party president on the other are in the same page about the need for reigning in consumption expenditure or populist schemes that cost the exchequer dear.  

But in the last several years under the UPA dispensation the subsidy mountain did not shrink because the Congress party president kept on enlarging the populist pie without ensuring that the resources for such largesse are garnered by her government through well-meaning fiscal proposals. This ‘divide’ between the party president and the prime minister of the day had been the main reason why the country’s Fiscal Responsibility and Budget Management Act (FRBMA) could not be implemented in full throttle. One has to await the outcome of the next election in 2014 to get more clarity on this and till then the new RBI governor’s loud thinking on this would remain a wishful one. Given the uncertainty of the limited time ahead till the outcome of the next polls is known, this would at best be a good intentional one.

Even as the details of the other measures proposed in the new governor’s policy review have now become passé, it would be instructive to refer to the recent flagship publication, Trade & Development Report (TDR) of the United Nations Conference on Trade & Development (UNCTAD) released on September 2012. Rightly the report asserted that the financial system in most developed and developing countries fails to adequately channel credit towards productive investment in the real sector, a refrain one hears ad nauseam from the domestic stakeholders of the economy. Hence, in order to bolster development strategies that promote domestic demand as a driver of growth in the wake of the halting recovery of the global economy, Unctad aptly underscores the urgent need for emerging economies to reinforce their financial system. A re-design of development strategies should therefore place premium on accelerating the pace of capital accumulation. These countries must perforce have to organise and manage their financial system in such a way that they provide sufficient and stable long-term financing for the expansion of productive capacities in consonance with the emerging domestic demand patterns. As bank credit is essential enabling firms to quicken their capital formation over and above what is feasible from retained profits, Unctad said the central bank could underpin the creation of such credit through the provision of ade1quate liquidity to the banking system and by keeping the policy interest rate as low as possible.

Without mincing words, Unctad pertinently points out the need to beef up the supportive role of the domestic banking system which might even require reviewing the mandate of central banks and even reconsidering the principle of central bank independence. Rightly does Unctad state that since financial stability depends on the performance of the real sector of the economy, bolstering economic growth should be deemed a major responsibility of the central bank. With the RBI bent on sticking to its obsessive mantra of price stability to keep inflation under leash as it is the cruelest form of taxation on the poor, this suggestion to expand the ambit and remit of the apex bank to include ensuring growth impulses to survive and thrive needs to be paid due heed to by the RBI. IPA
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