Centre's move will lead to a weak RBI

Inflation targeting is a priority for RBI Governor Raghuram Rajan, who has formalised an agreement with the Centre to aim for inflation below six per cent by January 2016 and target a rate of about 4 per cent subsequently. Having bound himself by such a commitment, it would now seem that the Centre is loath to extend to him the tools required to set rates, if the provisions of the draft Indian Financial Code (IFC) are anything to go by. The code, which would eventually find its way as a law to regulate the finan-cial sector, visualises a seven-member Monetary Policy Committee (MPC), a majority four of whose members would be appointed by the Centre. The remaining three would represent the RBI.

On paper, the RBI governor would continue to head the MPC as provided by an earlier IFC draft. But the new draft has rendered the governor ineffective not only by the loss of majority, but also by the removal of his veto power. Instead, all that the governor gets as a salve is a tie-breaker vote. Granted, the code is not final, and the Finance Ministry has invited comments on it by August 8. Also, Minister of State for Finance Jayant Sinha has clarified that the draft is simply an input. But the contrast with the present, where the RBI governor exercises veto power over the existing rate-setting advisory committee, effectively giving him de facto control over rates, won’t be missed. The IFC provisions are all the more surprising since it says that the “inflation target for each financial year will be determined in terms of the Consumer Price Index by the Central government in consultation with the Reserve Bank every three years”. On the one hand, the RBI has been made accountable for inflation, while on the other, it has been shorn off its authority to exercise control by the same draft IFC.

To be sure, the draft is not all about clipping the RBI’s powers. It visualises the setting up of a Financial Authority to regulate all financial services other than banking and payments; a Resolution Corporation for financial service providers in distress; a Financial Redress Agency for consumers; a Financial Sector Appellate Tribunal; and a Public Debt Management Agency. It also gives legal status to the existing Financial Stability and Development Council tasked with financial system stability. But it is telling that the draft provides for the Council to be based in Delhi. One hopes the physical distance from Mumbai would not be a metaphor for an unbridgeable chasm over policy prescriptions.