RBI Governor Urjit Patel attends a news conference after the bimonthly monetary policy review in Mumbai. (Photo: Reuters)
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The Loud Silence Of RBI Governor Urjit Patel

The preamble of the Reserve Bank of India (RBI) Act of 1934 lays down the reasons for the establishment of the central bank. First among them is to regulate “the issue of bank notes” and to “operate the currency” and credit system of the country.

Read on.

The bank shall have the sole right to issue bank notes in [India] and may, for a period which shall be fixed by the [Central Government] on the recommendation of the Central Board, issue currency notes of the Government of India supplied to it by the [Central Government]...
Chapter 3. Point 22.

Further down in the document.

Chapter 3. Point 24 (2)

The Central Government may, on the recommendation of the Central Board, direct the non-issue or the discontinuance of issue of bank notes of such denominational values as it may specify in this behalf...
RBI Act, 1934

If the point isn’t clear already, let’s spell it out. The central board of the RBI plays a central role in all decisions related to the currency, the issue of notes and, in turn, the discontinuance of bank notes of any denomination.

While the sequence of events leading up to Prime Minister Narendra Modi’s 8 November announcement to scrap 86 percent of India’s currency in circulation by value is unknown, it would be fair to assume that due legal process was followed.

This means that the central board of the RBI would have had to clear the proposal before it was sent to the government to approve and announce. In fact, in a statement to Parliament, Power Minister Piyush Goyal claimed that the suggestion of demonetisation had come from the RBI board, and subsequently approved by the Cabinet.

The RBI board took this decision and sent it to the government. The latter appreciated the decision and moved to take the Cabinet approval for the plan to discontinue notes of Rs 500 and Rs 1,000.
Piyush Goyal, Union Power Minister, speaking in Parliament on 16 November
Screenshot of the relevant excerpt from the discussion transcript on the Parliament website.
Screenshot of the relevant excerpt from the discussion transcript on the Parliament website.

The RBI board currently has 10 members, four from within the RBI (Governor Urjit Patel and the three deputy governors), two government representatives (Shaktikanta Das and Anjuly Duggal) and four independent directors. Nachiket Mor (a veteran banker), N Chandrasekaran (CEO, TCS), Bharat Doshi (former CFO of Mahindra & Mahindra) and Sudhir Mankad (an IAS officer who retired as chief secretary of Gujarat) are the four independent members of the board.

The RBI governor is the chair of the board, and hence, its rightful spokesperson.

Given the wide-ranging experience of these board members, it would be fair to assume that they would not have approved a decision of such import lightly. Again, while the deliberations of the board are not made public, it would be fair to assume that whoever put forth the proposal backed it with some analysis on the costs and benefits of demonetisation and a plan to counter any collateral damage on the broader economy as a result of this move.

Why then is this analysis not being put forth to explain the decision and its impact?

Secrecy Is Understandable, Silence Is Not

In the immediate aftermath of the announcement to scrap Rs 500 and Rs 1,000 notes, the government stated over and over again that secrecy was essential to the success of this process.

Indians queuing outside an ATM. (Photo: Reuters)
Indians queuing outside an ATM. (Photo: Reuters)

That makes sense. If those hoarding black money had gotten a whiff of the upcoming decision, they would have converted their cash to other assets, dulling the impact of the move.

The argument for secrecy can be partly used to explain why banks – and the RBI may not have been better prepared with a supply of new notes to replace the outgoing currency.

What does not make sense is the RBI’s silence (and that of the central board headed by the RBI governor) after the announcement and the unwillingness to detail the economic consequences of this decision and how these will be managed.

To be sure, Patel was present at the press conference held immediately after PM Modi made the announcement on the evening of 8 November. At the time, Patel said that the apex bank had been concerned about the growing menace of fake notes, offering that as one justification for the decision to take out 86 percent of the economy’s currency. He added that the RBI would speed up the printing of new notes.

Since then, we have heard nothing from Patel or the RBI top brass. What we have received is a series of statements on ad hoc changes to withdrawal rules that are first announced by the government and then operationalised by the RBI.

So far, and it’s been over two weeks since, the RBI hasn’t issued any statement explaining the economic impact, or the lack thereof, of demonetisation. While the central bank released data on cash deposits and withdrawals in the first eight days, it has refused to share data on how many new notes have been put into circulation.

Both bits of information would go a long way in offering clarity on the process.

Instead, all we have are wide-ranging estimates from private forecasters. The most pessimistic of these estimates comes from Ambit Capital that says GDP (gross domestic product) growth could crash to 3.5 percent. Others like HDFC Bank and HSBC are paring down GDP growth estimates by 0.5-1 percentage point.

What about the RBI’s estimates? Contingency measures? No word yet. It is possible this analysis will be shared at the upcoming monetary policy review on 7 December, but it can be argued that this analysis could have been provided upfront at the time of the decision.

It is also not clear whether there is any economic rationale to the almost daily changes made to deposit and withdrawal rules and the exemptions being made.

Some are easier to understand than others.

As an example, let us take the recent decision to allow those getting married to withdraw Rs 2.5 lakh. At the same time, there were requests pending from truckers, whose operations had come to a standstill because of the lack of cash. It could be argued that the latter has a more compelling case for an exemption. But it is unclear whether these decisions are following any coherent economic logic.

The Cost Of Dis-Information

The RBI’s refusal to provide adequate information on the rationale and economic consequences of demonetisation appears to be creating significant information asymmetry in the market.

Investors are making decisions based on guesstimates. Guesstimates of by how much growth will be hit. Guesstimates of what proportion of collections across the non-bank financial sector are in cash and hence may be disrupted. And guesstimates on how factors like loss of productivity and a tendency to hoard cash in the aftermath of a demonetisation decision could impact the economy.

A number of experts have chimed in. From global economists like Larry Summers and Kenneth Rogoff to local veterans like Arvind Virmani and Ajay Shah.

But the one institution (RBI) and the one person (RBI governor) that has the best idea of how this will play out has remained conspicuously silent.

This article was first published on BloombergQuint.com.