India’s new central bank governor was terse when asked whether his institution was poised to transfer Rs400bn ($5.7bn) to Prime Minister Narendra Modi’s government to help New Delhi dress up its accounts before the financial year ends in March.
When the Reserve Bank of India comes to a decision, Shaktikanta Das told a recent press conference, “you will come to know about it”.
A month on from a sudden dramatic change at the helm of India’s central bank, the institution’s payouts to the government and discussion over how much it should hold in capital has become a touchstone in a broader debate over its economic role — and independence.
“The issue is a litmus test. Is this an independent central bank or is it not?” said Saurabh Mukherjea, founder of Marcellus Investment Managers.
For months, New Delhi had been pressing the RBI for more generous payouts from its profitable operations to the treasury — a friction point that led to the abrupt resignation of former governor Urjit Patel on December 10.
His successor, Mr Das is now widely expected to deliver an interim dividend far higher than last year’s estimated $1.5bn — to help New Delhi meet this year’s deficit target, after a shortfall in revenues from the new goods and service tax.
Yet that could be just a prelude to a more generous payout. An expert committee, comprising current and former members of the RBI and the finance ministry, is now deliberating whether the RBI should transfer what New Delhi sees as its “excess capital”, potentially delivering the government a one-time windfall worth tens of billions of dollars. Given the perceptions of a central bank increasingly under New Delhi’s diktat, a sudden large-scale capital transfer to the government could “raise alarm”, said Sasha Riser-Kositsky, an analyst at Eurasia Group.
“If it were just this one isolated issue, investors might be more willing to give the government the benefit of the doubt,” he said. “But that context matters.”
In New Delhi, government officials say taking the accumulated capital from years of profitable RBI operations is a legitimate means of strengthening public finances, which would facilitate more public spending without increasing the government’s market borrowings.
“Why should we borrow?” said one official, who requested anonymity. “This money is lying dead in central bank coffers.”
But others warn that an erosion of the RBI’s independence, or even a widespread perception of this, could undermine India’s long-term macroeconomic stability.
The proposals for a special capital transfer come as New Delhi is pressing the RBI to ease restrictions on new lending by the 11 weakest of India’s 21 state-controlled banks, limits that had been intended to tackle a slow-burning bad loan crisis. Mr Das has already yielded to a government nudge to ease bank loan restructuring terms for small businesses.
“You can question whether these demands are reasonable or unreasonable, but he’s definitely playing more to the tune of the finance ministry,” Reuben Abraham, chief executive of the IDFC Institute think-tank, said of Mr Das.
Like most central banks, the RBI earns profits on its bond holdings and on currency movements. Some of these profits are transferred each year to the government — as dividends — while some are retained by the bank as protection against contingencies.
But Mr Modi’s administration believes RBI’s capital has risen to an excessive level and could be more usefully deployed. In a recent article, Arvind Subramanian, the government’s former chief economic adviser, argued that of the RBI’s total capital of Rs10.5tn, between Rs5.3tn and Rs7.3tn ($75bn-$104bn) was “excess” and that some of it could be transferred to the treasury.
Others contend the central bank’s balance sheet has been artificially inflated by the rupee’s persistent depreciation, which has boosted the value of the central bank’s estimated $400bn in foreign exchange holdings in local currency terms.
Analysts say it is this mark-to-market accounting for the RBI’s foreign currency holdings that accounts for what New Delhi deems the central bank’s “excess profits”. The value of these reserves could also decline if the rupee appreciates.
Raghuram Rajan, Mr Patel’s predecessor as RBI governor, has also warned that the RBI’s strong capital position is key to its prized triple-A credit rating, which would allow it to borrow in a crisis. “Relying on the country rating would give us very high-cost financing,” he said.
The debate over a special capital transfer has a particular resonance given its timing, just ahead of national elections. Critics fear the administration wants the RBI funds to enable generous spending promises.
However, Mr Subramanian told the Financial Times that such funds from a special capital transfer should be used for very restricted purposes. “I’d be aghast if this were used for routine expenditure or financing of the fiscal deficit,” he said. “It should be used only in exceptional circumstances for things with a lot of social return.”
While the ultimate use of the funds remains unclear, the expert committee is unlikely to disappoint the government’s hopes of a large capital transfer, said Rajeev Malik, strategist at River Valley Asset Management. “Committees in India are usually set up to tell the government what it wants to hear.”
