RESERVE BANK OF INDIA – THE “AUTONOMOUS” BODY?
INTRODUCTION
Reserve Bank of India (hereinafter referred to as “RBI”) is constituted to regulate issue of bank notes and keeping the reserves with a view to securing monetary stability of the country. (Preamble of Reserve Bank of India Act, 1934). It also acts as the regulator of all other banks of the country. The independence of Central Bank is a basic element to achieve strong and sustainable growth in any economy. The conflict between Central Banks and elected governments exists on countries all over the globe, but in India, the inception of the so-called “conflict” has surfaced, for the first time in its history, through a notification issued by the Government to RBI, invoking Section 7 of the Reserve Bank of India Act, 1934 (hereinafter referred to as “RBI Act” or “the Act”). Such an exercise was one of its kinds and the first one in the history of RBI, to be implemented by an elected Government. The invocation would lead to the constitution of Central Board of Directors by the Government, taking over the management of RBI and deciding on key strategic issues that cripple the financial markets, in particular, and the various sectors of the economy, at large. This has a devastating effect of direct interference in the autonomy of RBI as it is responsible for regulating all banks and financial institutions and ensuring the economic growth of the country. The need of RBI as an autonomous body and the backdrop of events that led to the invocation of Section 7 of RBI Act are necessary to analyze the crucial factors that led to the interference by the Government and the possible implications and inferences that can be drawn in such a unique case of assailing the autonomy of the Central Bank by the Union Government.
PURPOSE OF AUTONOMY OF RBI
The Central Bank’s part will play a huge role in any given economy. Similarly, it decides and influences the monetary policy in India. Without a central bank, a country cannot ensure stable economy. In a consistently developing country like India the need for a central bank becomes imminent. Moreover, RBI performs versatile roles like issue of currency, being banker’s banker, government’s banker, acts as custodian of foreign exchange reserves, takes policy measure for credit regulations, etc. Its role is pivotal in making India the 5th largest economy in the world. It worked valiantly right from its inception. Though the word autonomy is nowhere stressed in the RBI Act, it is blessed with a freedom to make its own choices. If its freedom is curbed it would relatively affect the monetary policy. For instance, if the legislative body interferes and curbs the autonomy of RBI then it will act merely as an executive body of the Finance Ministry and the monetary decisions will be generally influenced in relation to their party benefits. The government may fail to see the big picture while focusing on its short term goals. They may even force it to completely reduce the interest rate to gain public confidence but its impact on foreign exchange reserves or depreciation of rupee will not be their concern. In those times, even RBI would find it very difficult to act against the elected government. Moreover the government may topple or change in the subsequent election and thus the ideas and working pattern of the next elected government will never be the same as that of its previous governments. Thus, it would become a conundrum to achieve a long term goal as such a situation is always a predicament to the independent management and administration of the regulatory authority of all commercial banks in the country. But, as we see the other side of the coin, complete freedom will also lead to chaos. Hence all these things can be countered by RBI with an independent Governor having absolute freedom reconciled with personal accountability.
CENTRE’S SUBJUGATION - AN INSINUATION?
A clash between the elected government and RBI became conspicuous when the then Deputy Governor of RBI, Dr. Viral Acharya, vehemently accused the government of failing to respect the independence of RBI and warned of incurring the wrath of financial markets, ignite economic fire and come to rue the day it had undermined an important regulatory institution of the country. (Speech by Dr Viral Acharya at the AD Shroff Memorial Lecture, Mumbai (https://www.businesstoday.in/opinion/business-wise/no-dr-viral-acharya-the-rbi-neither-an-independent-nor-an-autonomous-institution/story/287028.html#:~:text=Remember%2C%20the%20RBI%20Act%20of,institution%20nor%20an%20autonomous%20one!)).
On February 12, 2019, the central government of India by invoking section 7 of RBI Act sent several letters to the Reserve Bank of India on numerous areas involving the performance of Non-Banking Financial Companies (NBFCs), liquidity, lending money and capital requirements to MSMEs.
Before moving further it is prudent to know the aspects of Section 7 of RBI Act, it reads as follows:
(1) The Central Government may from time to time give such directions to the Bank as it may, after consultation with the Governor of the Bank, consider necessary in the public interest.
(2) Subject to any such directions, the general superintendence and direction of the affairs and business of the Bank shall be entrusted to a Central Board of Directors which may exercise all powers and do all acts and things which may be exercised or done by the Bank.
(3) Save as otherwise provided in regulations made by the Central Board, the Governor and in his absence the deputy Governor nominated by him in this behalf, shall also have powers of general superintendence and direction of the affairs and business of the Bank and may exercise all powers and do all acts which may be exercised by the Bank.
Thus, through this provision, the central government can influence the central bank which otherwise stays apart from the government. It invoked this section because both the central bank and government were having a tug-of-war regarding the lending rules for banks under PCA (Prompt Corrective Action), where the government thought easing of which could help the MSMEs but the RBI completely opposed it by stating it would move Indian economy into a downward spiral. Moreover, at that time, NBFCs appealed to the government to increase their liquidity due to tightening of credit market with the default of Infrastructure Leasing & Financial Services (IL&FS). But RBI stood against it by substantiating that there was no spike in borrowing cost and also the market was in a good position. The notification also added that if a borrower misses a payment even for a single day then he will be considered as a defaulter though his accounts will be active in the bank’s books. The RBI opposed all these issues and stood against it (https://economictimes.indiatimes.com/news/et-explains/what-is-section-7-and-why-is-it-being-seen-as-an-extreme-step-against-the-rbi/articleshow/66442175.cms#:~:text=Section%207%20of%20the%20RBI%20Act%20has%20come%20into%20spotlight,has%20never%20been%20used%20before.).
There were also reasons to believe that the Government was trying to invoke Section 7 to order RBI to transfer the latter’s surplus reserves amounting to Rs. 3.6 lakh crore to the Ministry of Finance, to which RBI refused to do so as it would be helpful for them during a rainy day. It was considered by the Government that RBI should follow the capital framework and there is no need for it to keep cash reserves double than the global norms (https://www.businesstoday.in/current/economy-politics/fm-arun-jaitley-admits-section-7-of-rbi-act-was-invoked-govt-crossing-no-red-line/story/296092.html). The Government had also found its reasons for such invocation by citing an order passed by the Allahabad High Court on August 27, 2018, directing the Ministry of Finance to invoke Section 7 in resolving the issues in the case of Independent Power Producers Association of India v. Union of India, (Independent Power Producers Association of India v. Union of India, W.P. (C) No. 18170 of 2018) to which it had to comply with (https://www.business-standard.com/article/news-ani/govt-invoked-section-7-of-rbi-act-after-allahabad-hc-orders-source-118112800859_1.html). Due to the above such reasons, the Government invoked Section 7 of RBI Act and took control of the functioning, management and administration of the central bank.
It is felt that there is no extraordinary need or situation for the Government to invoke this provision. The central bank by time and then had difference of opinion on numerous aspects with the central government. This act is seen as an extreme measure because, even in the darkest days or amidst the global financial crisis, the centre never invoked this provision. This is the first instance of such invocation by the Government. Moreover, as this provision was never used in the past, neither its impact nor its ambit could be predicted. This creates a lot of assumptions and unwarranted speculations in the minds of the people.
GOVERNMENT INTERVENTION IN OTHER CENTRAL BANKS – AN ANALYSIS
The power of intervention and subjugation by the Government is clearly evident in almost all industrialized and developing nations in which every measure of monetary policy of Central Bank or Monetary Committee is of utmost importance for liquidity growth and development of the economy. Though the intervention by the Government is conspicuous, the degree of intervention differs in every Central Bank or Monetary Committee of an economy. Some have to experience more intervention by the Government while some need not have to suffer as the intervention is limited and restricted. In many countries, the subjugation of Central Bank by the Government happens only when there is an impending financial crisis or such other event in which the circumstances warrant such action. This is done to address the burning issue in the economy and to resolve it expeditiously by taking over the management and functioning of the Central Bank.
According to a report of Bank for International Settlements, (Report on Issues in the Governance of Central Banks, Bank for International Settlements, May 2009) some governments interfere in the functioning of the Central Bank of their countries and exercise their control only through directives and orders passed and in the manner in which such decisions are taken by the respective governments. An analysis of such procedures is necessary to determine the optimum extent of Government intervention in Central Banks for effective functioning of the latter.
· Canada: Regular meetings and consultations between the Finance Minister of Canada and the Governor of Bank of Canada, the central bank of the country, should take place before arriving at any decision on significant matters that is bound to affect the monetary policy of the country. If some issues cannot be resolved, the Minister can issue a time-bound or interim directive on monetary policy but only after further consultation with the Governor and the approval of the Prime Minister. It must spell out specific instructions and should be published within a fortnight by the Parliament.
· New Zealand: The Prime Minister, on the advice of the Minister of Finance, may issue directives to Reserve Bank of New Zealand, the central bank of the country, which is effective for a maximum period of 12 months, after which it is renewable and it should be mandatorily published and presented in the Parliament of New Zealand. After such presentation, the Governor and the Finance Minister must negotiate, within 30 days, a new Policy Targets Agreement (PTA) that should be consistent with the directives and orders passed by the Prime Minister.
· Malaysia: The Finance Minister may issue a directive to the Central Bank of Malaysia, the central bank of the country, to which the latter must comply, and it is presented, along with the objections raised by the central bank, in the Parliament of Malaysia.
· Japan: The Minister of Finance and the Minister for Economic and Fiscal Policy may submit proposals regarding monetary control matters to Bank of Japan, the central bank of the country, or request to postpone a vote on such matters until a consensus is found in the next or forthcoming meetings of the Bank with the Government.
· South Korea: The Finance Minister may make an open public request to the Monetary Policy Council of the Bank of Korea, the central bank of the country, to reconsider a decision that the Government believes is in conflict with its economic policy. If the Council has responded by reaffirming the decision concurred by at least five members, the President of Korea must make the final decision.
Governments have even inked Memorandums of Understanding (MoUs) with their Central Banks which categorically states the powers, duties and functions of both the signatories and the circumstances and extent of intervention that can be exercised by the Government in the administration of those Central Banks. For instance, repetitive meetings by a former Governor of South African Reserve Bank with the Finance Minister resulted in a MoU between them to substantially improve their relationship and to have a new approach in their meetings on matters pertaining to monetary policy of the economy. An Exchange of Letters in 2003 between the Finance Secretary and the Chief Executive of Hong Kong Monetary Authority, the de facto Central Bank, had set their respective roles in the co-existent functioning of both the power centres in Hong Kong Special Administrative Region.
There are also many informal arrangements between the Central Bank and the Government to maintain a productive relationship. Through this, it strives to have active management, which means trying to understand the perspective of the government and preparing facts and arguments proactively so that problems can be addressed while they are still manageable. It also avoids having the government publicly surprised for it can be, at times, detrimental to the reputation of the Central Bank.
EXPRESS GROUNDS AND PROCEDURES FOR INTERVENTION – THE QUINTESSENTIAL NEED
The exercise of powers by the Union Government under Section 7 of the Act has been mooted by almost all legal luminaries and technical experts in the field. It can be said that the particular provision is wide enough to be meddled and misused by the Government, similar to the issue raised recently where the Government had interfered in the management of RBI after heated exchange of words between the Government and RBI that arose due to the differences in their perceptions in liquidity levels and its expansion. They were also on different terms when the Government was trying to utilise the surplus funds lying in the Central Bank to monetise and adjust their fiscal deficits and other borrowings.
To address, resolve and prevent such misuse and arbitrariness by the Government specific grounds and procedures for Government intervention should be mentioned in the particular section itself which would prove effective both in terms of safeguarding the autonomy of RBI and also not compromising on the control of RBI by the Government, whenever necessary, but only according to due grounds and procedures.
Specific grounds:
1. Financial Emergency: Article 360 of the Constitution of India confers certain powers on the Union Government to declare and enforce financial emergency all over the country or in any part of it when a situation has arisen whereby the financial stability or credit of the country is threatened. In such a situation, Parliament takes control of the financial status of the country and the institutions that influence the economic stability and financial soundness of the country. Therefore, the Government can automatically take control of RBI, even without consulting its Managerial Board, with such Proclamation itself and effect it accordingly.
2. High and rapid surge in inflation rates: When the economy experiences rapid and consistent surge in the rates of inflation in a high and extreme way, it is an unhealthy situation. It may also be manifested in the form of galloping inflation or hyperinflation, where the local currency had completely lost its exchange value with that of foreign exchange. If this predicament prolongs for two continuous quarters in a fiscal/financial year, the Government can take control of the management and administration of RBI if its credit control measures are not effective and efficacious to meet the desired level of inflation required for the economy.
3. Inefficient management of the banking system: If the measures and initiatives by RBI in controlling liquidity, money supply, solvency and health of banks prove futile and inefficient, then the Government can take control of the management and administration of RBI.
4. Other Grounds: Conundrums like economic crisis, tackling and resolving depression in the economy etc. can also be other relevant grounds for Government intervention in the management and administration of RBI.
Specific procedures:
The following procedure can be followed by the Government to effectively and necessarily intervene in the operations of RBI, except in such a situation where the Government has sufficient reason to believe that it is expedient to take control of RBI during a financial emergency.
1. The Government should take cognizance of the fact that there is a situation in the nature of the second, third or other grounds mentioned above with the help of necessary data, statistics and authentic information from both the Government and RBI.
2. The Government can seek explanation from RBI as to why the Government should not interfere in its management, albeit the situation is conducive to do so.
3. RBI should then furnish their reply, either oral by summoning their representative or written, with relevant data on liquidity, money supply and inflation rates and authentic information on the central bank’s monetary policy and the present status of the banking system, substantiating that RBI can handle this without help from Government.
4. If the Government finds the reply satisfactory, then it need not and cannot interfere in the operations of RBI. But if the case is otherwise, the Ministry of Finance should conduct a high level meeting with the Reserve Bank of India to discuss the problems and arrive at a consensus to resolve it, which may either be a directive from the Government or a Policy Approach Agreement agreed between both the power centres.
5. If it is a directive, it has a validity of 4 months after which the directive ceases to have any legal effect on RBI. The directive should be presented before the Parliament. If it is found by the Government that the directive was not complied by RBI or the situation has exacerbated in spite of conforming with the directive by RBI, the Government can directly pass an order subjugating the functioning, administration and management of RBI and take everything under their control by constituting a Central Board of Directors with the representatives of the Government. The directive can be renewed and the time can be extended by the Government only for 2 more months.
6. If it is a Policy Approach Agreement, the validity can be fixed as per the wishes of the signatories, as the agreement may be on a particular issue to be addressed and resolved or a full approach to all issues and the relationship between them. The agreement should specify the grounds and circumstances under which the Government would interfere in the autonomy and management of RBI. It should also mention the level of accountability of both the power centres if there have been mishaps which place the other in a disadvantaged position in the course of their administration respectively.
This procedure can be followed for Government interference in the operations of RBI, provided it does not manifest arbitrariness or it satisfies the facets of Article 14 of the Constitution of India.
CONCLUSION
The Reserve Bank of India is an autonomous body constituted under a Statutory Act of Parliament known as Reserve Bank of India Act, 1934. It has been entrusted with the responsibility of increasing economic growth and controlling prices by checking the money supply and the operation of commercial banks in the country. The subjugation of RBI by the Government, though proves to be necessary at times, can be very disastrous for the institution and also poses a grave danger to the economy. The autonomy of the central bank must be respected in every possible way to for functioning in a more conducive and coordinated manner. For fulfilling this universal norm, there should be specific grounds under which the Government deems it essential to interfere in the activities of the central bank. Specific procedures to invoke Section 7 of RBI Act must also be present to avoid it being used arbitrarily by the Government by transgressing into the fields of the central bank. It should be done harmoniously to balance the public welfare interests of both the Government and the central bank. Such grounds and procedures are prescribed here by taking into account the process and procedures undertaken by the central banks and monetary committees of various different countries across the globe and setting it with respect to the contours of the RBI Act for the twin objective of maintaining smooth relations between the Government and the central bank and safeguarding the institution for effectively achieving the economic goals of the country.