The Reserve Bank of India (RBI) and the government have reached an agreement which incorporates all the “necessary requirements of a good monetary policy committee”, governor Raghuram Rajan said in an interaction with financial newspapers after the monetary policy review on Tuesday. He said giving the RBI governor veto powers over the committee would only undermine the panel.
You have said that you are not in favour of giving the RBI governor veto power under the monetary policy committee (MPC) framework. Can you explain your view?
The current system is effectively veto. Because you take outside advice but do what you think is appropriate. The difficulty in the current system is that it personalises the policy too much, which becomes too dependent on one person. For instance, there are many in India today who may say that I am overly conservative and that I should have cut rates long back. Research has shown that committees are less prone to mistakes.
If you undermine the policy committee by insisting that the governor has a veto, then we are no different from the current system. If you have a veto which is rarely used, that is fine but if it is a veto that is used often, then there is no point.
This issue has become a little overblown in some senses. In fact, the government appoints everyone, even the RBI governor. So, in that sense, it has a lot of control already.
But does it undermine the governor’s position?
I don’t think so. The governor’s objective is to fulfil the monetary policy mandate and create the basis on which the committee can make a decision. A good governor will convince the committee. Again, what is important, in our context, is a process by which the committee can establish its reputation. That is what we needed and I think we have it.
So you are okay with the suggestions of the new draft Indian Financial Code?
I didn’t say that. I said I am okay with the agreement that we have reached with the government. Yesterday, the finance secretary said we have reached an agreement. I am verifying the fact that we have reached an agreement which has been discussed over time since the budget. I don’t think there is anything for anyone to worry about. This is going in the right direction.
There is fear that the real interest rate is too high given the current economic backdrop. . .
I see the real interest rate today as being about 1.5% and maybe even lower. If you look at the seasonally adjusted momentum of inflation last month, we get a number of 6.6% for inflation last month. If you take the repo rate of 7.25% and subtract that inflation number, you get 0.6%. That is your monetary real interest rate. Even if you take RBI’s 6% inflation target into account, the real risk-free rate works out to 1.25%.
People add on to this various risk premia but that is not the real risk-free rate. So we are not responsible for the high rates; the high-risk premium attached to certain borrowers is responsible for the high rates. That is what people keep forgetting.