RBI vs Govt: Reserve Bank Escapes With A Few Burns And Bruises  

The spat between the government and the RBI is far from over, but both sides live to fight another day.

5 min read
RBI vs Govt: Reserve Bank Escapes With A Few Burns And Bruises  

The spat between the government and the Reserve Bank of India is far from over. The best that can be said is that both sides will live to fight another day, as most of the underlying issues remain unresolved.

Lets begin by acknowledging that the worst was averted.

The top team at the RBI stays intact and is, presumably, back in the comfort of their Mint Street offices this morning.

The government stayed away from issuing directives to the Reserve Bank under Section 7 of the RBI Act, avoiding the perception that it is attacking the autonomy of the central bank.


The prevailing view of most central bank watchers is that both sides have stepped back from the edge.

“The decisions suggest efforts have been made to preserve the RBI’s operational autonomy. The risk of high profile exits from the RBI has proven to be overblown, and this should provide a near-term respite,’ said Nomura Global Markets Research in a note titled ‘RBI-Government Walk Away From Cliff Edge’’

The government has capitulated and the RBI has won the day for now, said senior journalist and author TCA Srinivasa Raghavan in a conversation with the BloombergQuint.

But beyond that immediate relief, the outcome on some individual issues remains uncertain.

Reserves: A Fight For Another Day

The key battle between the two sides was over the issue of reserves. The government wanted to dip into the accumulated reserves of the RBI, which it believes are excessive. While the current government did not specify what it wanted these reserves for, former Chief Economic Adviser Arvind Subramanian had suggested the reserves be used for recapitalising public sector banks.

The RBI board has clearly put its foot down on that.  

Instead, it has agreed to set up a committee to review the economic capital framework that governs the central bank’s balance sheet. The Business Standard reported that the committee will not look into past reserves but only at future transfers. If so, this should be considered a big win for the RBI.


Where the RBI has given some ground is in the formation of that committee. The past two committees — the Usha Thorat Committee (2004) and the Subrahmanyam Committee (1997) — were internal RBI committees, explained a person familiar with the matter.

The new committee will be one that has external and, perhaps, government representation. But there is no problem with this as long as the committee has credible experts on the matter, said the person quoted above. This person added that at the end of the day, the central bank’s balance sheet is part of the broader sovereign balance sheet.

It is now up to the RBI members on the committee to explain the central bank’s view on why it believes a certain amount of reserves need to be maintained.

Banking Regulations: Some Give And Take

Apart from the issues of reserves, disputes had broken out on a handful of issues related to banking regulation, the troubles being faced by non-bank lenders and small and medium enterprises.

Here, there was some give and take. While the RBI did not yield on some of the core demands, it has agreed to consider some suggestions.

The government had demanded that the RBI ease up on the minimum total capital requirement of 9 percent set under the version of Basel norms adopted by India. The government had argued for 8 percent minimum total capital, in line with what has been adopted by most international jurisdictions. The RBI has refused to accept this demand, perhaps recognising the adverse view that rating agencies would take on such a relaxation.


Instead the RBI has extended the timeline for the full implementation of the capital conservation buffer — a small part of the Basel capital rules — by a year. Even that relaxation has been viewed negatively by rating agencies, reiterating the need to stick to the framework laid out. The relaxations are credit negative, said Moody’s Investors Service in a note on Tuesday, 20 November.

On prompt corrective action, the matter will be looked into by the Board of Financial Supervision. This is an internal committee of the central board, which, along with the governor and the deputy governors in charge of banking, has other board members, including Bharat Doshi and Satish Marathe.

Matters like PCA or the stressed assets framework are anyway often presented to this board so the RBI has not given much ground here.

The RBI has also not relented on the demands for a special liquidity window for non-bank lenders. The matter will be taken up at the next board meet in December.

Where the RBI may have to give in, is on the demand for some relaxation on rules for small and medium enterprises. The board has “advised” the RBI to consider a scheme of restructuring for stressed standard advances up to Rs 25 crore. The final circular on this will determine whether the RBI has given in to a demand for forbearance or if it simply relaxes some of the stringent conditions attached to restructuring of larger corporate accounts.


A More Empowered Central Board

One of the key takeaways, and perhaps the bruise that will hurt the longest at the RBI, is the subtle change in the dynamics between the central board and the RBI executive.

The board enjoys great legal powers vested in it by the RBI Act but has rarely used any of them. This appears to be now changing.

At least in the last two board meetings, the discussions have been anything but perfunctory. Issues have been debated and discussed. Presentations have been made. And the RBI’s executive view has been challenged. In some cases the board has prevailed, in others the executive.

Also, the issue of board governance has been pushed back to the next meet but not fully shelved.

The greater empowerment of the central board can be good and bad.

Good if it leads to better thought-out decisions. Sometimes 18 heads can be better than one. Bad if those decisions are influenced excessively by the views of the government. After all, not only are there two government officials (non-voting) on the board, all independent members are nominated by the government as well.

For now, it must be recognised as a subtle but important change in the functioning of the Reserve Bank.


(Ira Dugal is Editor, Banking, Finance & Economy, at BloombergQuint. This article was first published in BloombergQuint.)

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