The Mint Street vs North Block battle over cutting interest rates doesn’t augur well for the economy
Government’s chief economic adviser Arvind Subramanian will have to moderate the tone and tenor of his criticism against the Reserve Bank of India (RBI) and its monetary policy committee (MPC). The Mint Street versus North Block battle, now endemic over cutting interest rates, has shown greater dissonance develop between the two and this doesn’t augur well for a healthy financial system.
Just because retail inflation touched a historic low of 1.5 per cent in June 2017, should RBI and the monetary policy committee comply with demands of Subramanian is the moot question. And, God only knows what he means by “paradigm shift” in inflation process while low vegetable prices led to lower inflation.
There’s no doubt that low inflation at the consumer end must translate into low interest rates as well. But, to virtually burst out in public against the RBI was not in good taste whatever be the context. This is the second time one has seen an outburst from the CEA on this issue in the recent past. One saw this manifest itself during D Subba Rao’s tenure as RBI governor as well, but now it has turned into a diatribe with the RBI maintaining decorous silence. Even when retail inflation touched 2.2 per cent in May 2017, Subramanian clamoured for rate cuts to perk up growth in an economy that has been experiencing serious deceleration for close to a year now.
Many may recall that Raghuram Rajan as chief economic adviser in finance ministry during 2012-13 had prevailed upon the then RBI governor
D Subba Rao to slash interest rates not once but twice. But, when Rajan assumed charge as RBI governor, he not only reversed the decision but also pushed up the rates in a contrary fashion. Which only goes to suggest that once you occupy the corner office on the 18th floor of Mint Street then the prism with which you view monetary policy alters dramatically. Given the past experiences, there’s no reason why the RBI governor Urjit Patel should yield to the demands made by Subramanian. Unlike in the past, today there’s a multi-member MPC that takes a call on interest rates where three nominee members represent the government. Allowing the monetary policy committee to take a call on interest rates was the right way. Here too, the RBI was encumbered for this was a first as well.
Why is it that principal economic adviser Sanjeev Sanjyal does not see the difference between dis-inflation and deflation? Definitely, the economy was going through disinflation and not deflation. Even if the economy was headed for deflation, the adverse impact would be huge on consumption demand given that income of at least 25 per cent population would in any case slide. Demand destruction that took place due to demonetisation cannot be underscored in this backdrop. Just when rural demand was picking up due to a good monsoon last year, demo dealt a death blow to a reviving economy.
Now, what about factors that have to be considered by RBI while deciding on interest rates? For instance, new house rent allowance (HRA) rates for central government employees have become operative this month having inflationary implications. Similarly, the non-agriculture commodities prices are bound to move up especially after 18 per cent GST was slapped vis-à-vis 14.5 per cent earlier. Some economists have projected that higher commodity prices may add about 0.5-0.7 per cent to retail inflation going forward. RBI monetary policy committee may have to factor in the full impact of GST on trade in goods and services as well.
If US Federal Reserve’s decision to push up the interest rates was any indication, RBI’s policy panel may have to take note of the developments in global financial markets. Given that higher rates in international markets would directly impact the capital account, exchange rates and trade for India, there’s no way RBI can ignore these issues.
These factors have not been flagged in these columns to discount the possibility of lowering the interest rates to inject fresh momentum in both rural and urban markets that have been subjected to disruption following high value currency demonetisation and GST rollout. Though the impact of both these phenomena was temporary, there’s no denying the fact that the bearing on both consumers and businesses was in equal measure.
Over and above, government will have to work towards forging a working understanding with RBI and its monetary policy committee on the tenets of non-interference, arms’ length distance coupled with respect for the autonomy and intellectual tenacity of the central bank. Bullying tactics will have to end here and now. Settling the differences in private is the only way out.