Though the tension between the government and RBI has somewhat thawed in recent weeks after Urjit Patel resigned as RBI Governor in December 2018, the differences are not likely to disappear overnight. In fact, such standoffs between governments and central banks are happening across the world, with US President Donald Trump blaming the Federal Reserve for the slowdown in the US economy and publicly saying that the “Fed has been a bigger problem than China”.
In Europe, Mario Draghi, the president of the European Central Bank expressed his displeasure over a threat to its independence from member-countries stating that the “ECB’s mandate does not involve financing government deficits.” In April 2018, President Recep Erdogan, too, had accused the central Bank of Turkey of “acting behind his back” on interest rate policy.
Tensions between the government and the Reserve Bank have been simmering for quite time now over many issues, such as the relaxation of PCA (Prompt Corrective Action) norms for banks or the issue of transfer of RBI’s surplus income to the government.
In recent weeks, the RBI seems to have heeded government’s advice and has taken five public sector banks and one private sector bank out of the PCA framework. The RBI had also announced in February 2019 that it would transfer an interim surplus of Rs 28,000 crore to the government. In addition to the Rs 40,000 crore it had transferred in August 2018, the total surplus transferred during 2018-19 would be Rs 68000 crore. Since the accounting year for RBI is July 1 to June 30, the Board of RBI transfers the surplus to the government in early August every year.
The main and major source of income for RBI is the interest income on securities that it holds. After accounting for expenses, the surplus is transferred to the government. The surplus transferred by RBI during 2016-17 and 2017-18 was Rs 30,659 crore and Rs 50,000 crore. The surplus was lower during 2016-17 due to demonetisation and RBI had to pay a higher interest — reverse repo — to banks on the amount collected and deposited with it during demonetisation.
The reduction in interest income of Rs 8,877 crore on the one hand and increase in printing cost by Rs 4,544 crore toward the new Rs 500 and Rs 2000 notes resulted in a lower surplus during 2016-17. RBI also makes provisions for Contingency Fund (CF) and Currency & Gold Revaluation Account (CGRA) in the income and expenditure statement every year.
While RBI had made provisions of Rs 13,190 crore during 2016-17, it was Rs 14,190 crore during 2017-18. The cause of disagreement between the government and RBI is over the amount that should be in the contingency fund. The government has been nudging RBI to reduce the provisions made to contingency fund transfer as it feels that the Rs 2,32,108 crore in contingency funds is too much and there is no need for RBI to keep excess reserves. RBI on its part feels that it must have more reserves to meet emergencies. It also feels that government issuing directions is an infringement on its autonomy.
It would not be out of place to mention here the seigniorage benefit that RBI enjoys as the sole issuer of currency notes. Seigniorage is the difference between the face value of the currency and the actual cost of printing it. Just to give an example, if the government prints a Rs 500 note and puts it in circulation, incurring a cost of Rs20 – that cost includes printing and other expenses like agency charges, employee costs and provisions -- the government creates an asset of Rs 480! So, higher the denomination, more will be the assets that RBI can create and earn income.
Against the total currency notes of Rs 19.12 lakh crore issued as on June 30, 2018, RBI created assets and had invested Rs 18.37 lakh crore in foreign securities and Rs 74,349 crore in gold coin and bullion as backing for the issue of currency notes.
Should RBI transfer the surplus to the government when demanded? Can it resist the government encroaching on its autonomy? Can government claim its right over RBI’s surplus? Even if we were to argue for RBI’s autonomy, can we hold it accountable if there are instances of regulatory failure, like the Rs 11,400-crore fraud at PNB?
RBI should work with and support the government in times of need. After all, the government owns 100% of the Rs 5 crore capital of RBI and it is the government which is accountable to the people for achieving objectives like economic growth and welfare of citizens. So, who is superior?
As former PM Manmohan Singh said in his daughter Daman Singh’s book, ‘Strictly personal: Manmohan & Gursharan,’ the dynamic between RBI and the government is that of give and take, and if the finance minister insists on a certain course of action, his view will prevail.
(The writer is a former banker, currently with Manipal Academy of Banking, Bengaluru)