(Editor's Note: This book features in D Shivakumar's 'My 6 best business books of summer 2024')
In the midst of the global financial crisis in mid-October 2008, even as the Reserve Bank was dousing the system with rupee and forex liquidity, Finance Minister Chidambaram suo moto constituted a committee on liquidity management, with Arun Ramanathan, the finance secretary, as the chairman. The Reserve Bank was asked to nominate a representative on the committee.
I was annoyed and upset by this decision. Liquidity management is a quintessential central bank function, and Chidambaram had clearly overstepped into RBI turf. Not only did he not consult me on constituting the committee, but he had not even informed me of this before the notification was issued. Coming as it did amidst a lot of suspicion in those early weeks of my tenure that I was a government lackey sent to the Reserve Bank to act at the government’s bidding, the constitution of this committee only reinforced the view.
I called up Chidambaram and let him know in unequivocal terms that his action was totally inappropriate and requested firmly that he dissolve the committee. His argument was that when liquidity management was such a central concern, getting advice from external market participants would help us understand and respond to the ground reality in the market faster and better. I granted that, but if he wanted external experience to be tapped, he could have advised me informally to constitute such a committee rather than taking the Reserve Bank for granted. The call ended with my telling him that the Reserve Bank would not participate in the committee.
This skirmish with Chidambaram, who I believed had pushed my candidature for the governor’s job, so early in my tenure upset me greatly. Little did I know that this set the tone for what would be an uneasy relationship between us in the last year of my term.
Why indeed should a central bank have autonomy in setting monetary policy? That’s an important question. The core mandate of a central bank is to maintain price stability and financial stability. Delivering on this mandate requires ensuring the long-term sustainability of the economy even if it means implementing measures that might cause pain in the short term. Governments, typically driven by electoral pressures and short horizons, have little tolerance for such pain and tend to prioritize short-term compulsions over long-term sustainability. We have had many examples of economies being driven to disaster because governments took control of the printing press. An apolitical central bank that keeps a hawk eye on long-term sustainability is therefore a systemic counterpoise to a democratic government driven by electoral cycles.
Government–central bank differences on monetary policy are therefore hardwired into the system. Problems arise if they are not resolved amicably and professionally. And problems on that account did arise during my term as governor. Both Chidambaram and Pranab Mukherjee who were finance ministers during that period were vexed by the RBI’s anti-inflation stance, which they thought was stymieing growth. The issue became particularly sensitive because the government was continuously being grilled for its ‘policy paralysis’, and they saw a softer interest rate stance by the RBI as a way out of the quagmire.
In a media interview in July 2013, I remember that Chidambaram had generalized this divide by saying something along the lines of how governments were for growth and central banks were for price stability. This stereotyping was misinformed not just with reference to India but even from a broader perspective. When he was asked in the same interview why he was frustrated by the RBI when all it was doing was pursuing its mandate of price stability, Chidambaram said that the RBI’s mandate of price stability must be understood as part of a larger mandate of promoting growth. The clear implication was that the Reserve Bank was mistaken in interpreting its mandate.
I begged to differ. Both in private and public, I argued that the RBI was running a tight monetary policy not because it did not care for growth but because it did care for growth. But the government remained unpersuaded.
The net result was that I had run-ins with both Chidambaram and Mukherjee on the RBI’s policy stance. Both of them invariably pressed for softer rates although their styles were different. Chidambaram typically argued his case like the lawyer that he so eminently is, while Mukherjee was the quintessential politician. He let his view be known and left it to his officers to argue his case. The net result was an uncomfortable relationship.
In October 2012, shortly after Chidambaram returned as finance minister from the Home Ministry, he set about in earnest to reverse the fiscal profligacy of the Mukherjee regime. Possibly to compensate for the fiscal tightening he was embarking on, he very much wanted a softer monetary regime and put enormous pressure on the RBI to lower the interest rate. On objective considerations, I could not oblige him though.
My refusal to fall in line evidently upset Chidambaram enough to do something very unusual and uncharacteristic—to go public with his strong disapproval of the Reserve Bank’s stance. In his ‘doorstop’ media interaction outside the North Block about an hour after the Reserve Bank put out its hawkish policy statement expressing concern on inflation, he said: ‘Growth is as much a concern as inflation. If the government has to walk alone to face the challenge of growth, we will walk alone.’
Sure enough, Chidambaram’s ire at having been abandoned to ‘walk alone’ created quite a flutter in the media. I was on notice, therefore, for the first question that would come my way in the scheduled post-policy media conference later that afternoon. Reluctant to fan controversy during a period of economic stress, I papered over the differences, saying: ‘The government and the Reserve Bank have shared goals. Both of them want high growth and low inflation. Differing perceptions on how to achieve these goals are common across many countries in the world.’
Reserve Bank as the government’s cheerleader?
Pressure by the government was not confined to the Reserve Bank’s interest rate stance; on occasion, it extended to pressuring the RBI to present rosier estimates of growth and inflation at variance with our objective assessment. I remember one such occasion when Pranab Mukherjee was the finance minister. Arvind Mayaram, the finance secretary, and Kaushik Basu, the chief economic adviser, contested our estimates with their assumptions and estimates, which I thought was par for the course. What upset me, though, was that almost seamlessly the discussion moved from objective arguments to subjective considerations, with suggestions that the Reserve Bank must project a higher growth rate and a lower inflation rate in order to share responsibility with the government for ‘shoring up sentiment’. Mayaram went to the extent of saying in one meeting that ‘whereas everywhere else in the world, governments and central banks are cooperating, here in India the Reserve Bank is being very recalcitrant’.
I was invariably discomfited and annoyed by this demand that the RBI should be a cheerleader for the government. It also dismayed me that the Ministry of Finance would seek a higher estimate for growth while simultaneously arguing for a softer stance on the interest rate without seeing the obvious inconsistency between these two demands. I used to take a firm position that the Reserve Bank cannot deviate from its best professional judgement just to doctor public sentiment. Our projections must be consistent with our policy stance, and tinkering with estimates for growth and inflation would erode the credibility of the Reserve Bank.
Having been both in the government and in the RBI, I can say with some authority that there is little understanding and sensitivity within the government on the importance of central bank autonomy.
It’s interesting, even somewhat comforting, that these tensions between the government and central bank are not unique to India or emerging economies. They play out in rich countries as well.
Alan Greenspan, the former chair of the US Federal Reserve, said in an interview following the publication of his book, The Map and the Territory: ‘In the eighteen and a half years I was there, I got a huge number of letters or notes or whatever, urging us to lower interest rates. On the side of getting letters which say you’ve got to tighten [raise rates], it was a zero. So, it is a huge political, regulatory asymmetry.’
Fast forward several years. Donald Trump, as US President, was vicious in his attacks on the Federal Reserve. In 2018, after the Federal Reserve had raised the interest rate for a third time, he said many things: ‘I think the Fed has gone crazy.’ ‘Boneheads.’ ‘Pathetic.’ An ‘enemy’ of the United States. ‘China is not our problem. The Federal Reserve is.’
These were all the ways he vented his ire at the Federal Reserve. Even by the concessions the world had grown to give to Trump’s vicious outbursts, this was taking criticism of the central bank to an altogether new level.
We are fortunate that for all the skirmishes between the government and the RBI, our discourse is far more civilized.
Walking alone
All through my occasional skirmishes with the government over the five years I was at the Reserve Bank, I refrained from taking a confrontational position on the autonomy issue in the public domain. It was only in the Palkhivala Memorial Lecture I delivered on 29 August 2013, a week before I was to step down, which I used mainly to render an account of my experience of leading the Reserve Bank for five turbulent years, that I chose to address the issue. This is what I said:
A final thought on the issue of autonomy and accountability. There has been a lot of media coverage on policy differences between the government and the Reserve Bank. Gerhard Schroeder, the former German chancellor, once said, ‘I am often frustrated by the Bundesbank. But thank God, it exists.’ I do hope Finance Minister Chidambaram will one day say, ‘I am often frustrated by the Reserve Bank, so frustrated that I want to go for a walk, even if I have to walk alone. But thank God, the Reserve Bank exists.’
The standing ovation I received remains one of the most treasured and enduring memories of my time as governor.
(This excerpt from Dr D Subbarao’s book ‘Just a Mercenary?’ has been reproduced with permission from Penguin Books India)
Watch (or read the takeaways) from a conversation with Dr Subbarao and two of the authors: 23 Takeaways from Founding Fuel Live: The Best Business Books of Summer 2024
