Why Rajan should not jump into bed with Jaitley

Mar 26, 2015

- By Vivek Kaul

Vivek Kaul
There have been a spate of media articles recently about how all is not well between the finance ministry (i.e. Arun Jaitley) and the Reserve Bank of India (i.e. Raghuram Rajan). In fact, so loud has been the noise around the "supposed differences," that the finance minister Arun Jaitley had to recently clarify that: "There has always been and shall continue to be regular and continuous interaction between the central bank and the government. We have completely free and frank discussions and therefore there is no issue of a disconnect [the emphasis is mine]. I have routinely clarified that."

It is important to note that Jaitley used the word disconnect. He did not say that there were no differences between the RBI and the finance ministry. Jaitley was talking in the specific context of the setting up of the monetary policy committee.

One of the things that he had budget speech was: "To ensure that our victory over inflation is institutionalized and hence continues, we have concluded a Monetary Policy Framework Agreement with the RBI...This Framework clearly states the objective of keeping inflation below 6%. We will move to amend the RBI Act this year, to provide for a Monetary Policy Committee."

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World over the monetary policy of a central bank is essentially decided by its monetary policy committee. In India setting the interest rate is the personal responsibility of the RBI governor. A report in The Hindu points out that the finance ministry wants the monetary policy committee to have eight members with a government nominee who wouldn't have any voting rights.

The RBI on the other hand wants a five member committee where the majority would determine monetary policy decisions (for example whether or not to increase the repo rate). The governor would act only as a tiebreaker if a member is not present during the course of a meeting. The RBI also wants two outside experts in the committee which it would pick. And there is no space for a government nominee in RBI plans.

Jaitley was essentially referring to this issue when he said: "there is no disconnect". Interestingly, Rajan clarified that: "overtime, as the Finance Minister said, we will figure out the details of the committee."

Nevertheless, there is a much larger point that comes out of this. As I said earlier Jaitley (who is a lawyer and chooses his words very carefully) used the word "disconnect" and not "differences". If he had said that there are no differences between the finance ministry and the RBI, that would have had me worried.

There has to be some friction in the relationship between a regulator and the government for the regulator to be effective. Alan Greenspan, the former chairman of the Federal Reserve of the United States, recounts in his book The Map and the Territory that in his more than 18 years as the Chairman of the Federal Reserve of the United States, he did not receive a single request from the US Congress urging the Fed to tighten money supply, increase interest rates and thus not run an easy money policy.

In simple English, what Greenspan means is that the American politicians always wanted low interest rates. India is no different on that front. Arun Jaitley has made enough noises since taking over as the finance minister asking the RBI to cut the repo rate. Repo rate is the interest at which RBI lends to banks and acts as a benchmark to the loans that banks make.

If there would have been no differences between the RBI and the finance ministry, the central bank would have cut interest rates every time Jaitley asked it to. And given the number of times Jaitley has asked for lower interest rates, the repo rate would have been close to 0% by now. But would that have led to lower interest rates in general? And would that have been the best for the Indian economy? The obvious answer to both the questions is no.

At times when politicians ask for low interest rates they are essentially batting for industrialists. As Rajan had said in a speech in February 2014: "what about industrialists who tell us to cut rates? I have yet to meet an industrialist who does not want lower rates, whatever the level of rates."

He further went on to elaborate that: "Will a lower policy interest rate today give him more incentive to invest? We at the RBI think not. First, we don't believe the primary factor holding back investment today is high interest rates. Second, even if we cut rates, we don't believe banks, which are paying higher deposit rates, will cut their lending rates."

Rajan was making a very important point here. The politicians and the industrialists just think about one side of the interest rate i.e. the borrowing side. At lower interest rates, borrowers are likely to borrow and spend more (at least theoretically, though I don't buy this theory in totality). This would mean better prospects for business and faster economic growth.

At lower interest rates businesses also will end up paying lower interest on the debt that they have managed to accumulate, leading to higher profits, if everything else stays the same.

But what about the people who invest their hard earned money in fixed deposits? The politicians and the industrialists are not bothered about them. These people also need to be paid a certain rate of interest on their bank fixed deposits. Between 2008 and 2013, the fixed deposit interest rate was lower than the prevailing rate of inflation.

This led to a lot of money going into gold and land, where people thought the returns would be better. Many of them were also lured into investing into Ponzi schemes.

Long story short-the RBI has to look at all sides of the equation while making a decision to change the interest rates. That is not the case with politicians and industrialists. Given this, it is vital that there are some differences between the RBI governor and the finance minister. Hence, it is important that the RBI governor should not jump into bed with the finance minister.

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Vivek Kaul is the Editor of the Diary and The Vivek Kaul Letter. Vivek is a writer who has worked at senior positions with the Daily News and Analysis (DNA) and The Economic Times, in the past. He is the author of the Easy Money trilogy. The latest book in the trilogy Easy Money: The Greatest Ponzi Scheme Ever and How It Is Set to Destroy the Global Financial System was published in March 2015. The books were bestsellers on Amazon. His writing has also appeared in The Times of India, The Hindu, The Hindu Business Line, Business World, Business Today, India Today, Business Standard, Forbes India, Deccan Chronicle, The Asian Age, Mutual Fund Insight, Wealth Insight, Swarajya, Bangalore Mirror among others.

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18 Responses to "Why Rajan should not jump into bed with Jaitley"

Inderpal Singh

Mar 27, 2016

Rajan's policy of keeping interest rates 2% above inflation seems to be a right thing to do. As we know keeping interest rates very low may lead to mis allocation of capital sooner or later further resulting in damaging of the whole financial system. At the same time keeping it very low discourage saving which in itself is not healthy for economy. Maintaining a balance between saving and spending is a must if we really want to strengthen our nation economy in & for long run. The balance will also help in avoiding bubbles. We want real growth not phony. We should learn from western world loose monetary policies rather than blindly following the same path. One thing I want to add here is what I am able to understand on this subject is due to Vivek Ji's Easy Money Trilogy. Really worth value for money.


Atley George

Mar 29, 2015

Well written article. By the time they finish their five years, they will completely wipe out the country. RBI should not bend down knees in front of the Govt.



Mar 29, 2015

monetary policy committee, Rajan's view is better than the government's. Lower interest rates will increase inflation. Increase the value of the assets, The Industrialist and the politicians can take a hike.

Can we talk about land reform. Is it necessary the Industrialist be given land at concessional rates? Why can they not lease for 25 years form the cooperatives of the landowners at market determines rent?

With the present system the valuation of business is less than valuation of land over 25 years.


There is economic value for working people, the present HR policies are biased against over 50. Should this change?


Prof. S Basu Ray Chaudhuri

Mar 29, 2015

I feel that both RBI and Finance Ministry to proceed on the betterment of the country as a whole and the people in particular. On one hand the Govt prioritize the business houses (normally it is done by all the Govt)but RBI most of the times concentrate on the overall financial situation (barring compromising at few cases). On the other hand RBI is having discriminating policy formulation among banks (viz. Private & Nationalized), it may be due the liberalization but still in some areas discrepancies could have been minimized. The best way for our country is to have a rationalized way wherein the retired persons should not be ignored by any of the sides.
Thanks and regards.


Vinay Rane

Mar 29, 2015

I think Mr. Jaitley is arm twisting RBI, and wants to please the industrialist of this country. We thought only the previous government was doing this, , but now Mr. Jaitley is also following Mr. Chidu's policy. Instead of improving the financial health of the country ,by cost cutting and ending corroption, he is trying to put pressure on RBI policies.


B Samer

Mar 29, 2015

For Pure Industrialists and MSMEs Interest Rates are not significant... they are significant for Large Corporations and their Capital Guzzling low employment potential so-called hitech ventures.

Jokes of 2015…


These are some of the headlines screaming you in the face when you open the morning newspapers and news channels, as a part of the blitzkrieg unleashed by the Government of India and State Government in Maharashtra. The Governments are spending a lot to convey their (supposed?) intent to the eagerly awaiting citizens, by means of advertisements and publicity articles published be the willing media.

“Tell us what The National Policy for MSME should be” highlights another advertisement.

The Government Makes Attempts to Prevent Start-ups From Going to Other Countries to Take Advantage of Ease of Starting Business… How about Ease of Doing Business Without Being Hounded by the Government Machinery.

You feel like SCREAMING BACK at them – but who will listen ?? after their purpose is served i.e.they have been voted to Power !!

The trajectory of Business has been just one way since the last 3-4 years for most businesses… and it has not changed one iota after the new government has come in place. Nor has the attitude of the Governing Politicians and Bureaucrats… despite all talk of Swatchh Bharat and Good Governance.

Previously when the government introduced VAT with raised rates, it was with the announced that shortly Octroi / LBT and other such levies will be eliminated. The same promises were bandied around with talk of removal of Toll Posts, by the new Governments of Country and State at time of election propaganda.

Even the dumbest of people are aware that only 10% of the actual revenue goes to the official state coffers, and the remaining is lining the pockets of the Bureacratic and Political Machinery from lowest level to the highest. Any thumb rule working of revenues generated v/s losses incurred by way of time value of productive manpower/equipment – fuel wastages in these activities is equal to or more than the revenue generated.

The new Government in the India and the State of Maharashtra have come in on their electioneering platitudes of “Development” and “Achhe Din” for All including the “Common Man”.


R Varadarajan

Mar 29, 2015

In their over enthusiasm to create climate for showing faster growth some interested quarters are trying to clip the wings of RBI who could successfully weather the adverse financial melt down between 2008-2010. One should be cautious of the policies leading the country towards the chaos that prevailed in the US Financial Market in 2008 with the so called 'innovative' cheap credits which turned out to be detrimental !!!!


Dr.Gautam Haldipur

Mar 29, 2015

Well written article by Vivek Kaul in general.May I humbly put it this way. There has been a deeper malaise than the way it looks.
1.The RBI is the one that monitors the MONETARY POLICY.It is one of the most intricate things to do imparting proper checks & balances wherever needed. There are a lot of places where the hands of the RBI are tied here.Their job is clearly set out within certain parameters.Invariably the people at RBI are highly qualified professionals & people of high acclaim in their field of operations.Take Raghuram Rajan for that matter. He is bestowed with not only wide experience but with innate sense to read deep into things & the intellect & resolve to handle issues aptly. Though there could have been a push or a nudge from successive governments of the day or for that matter the F.M., I believe he has stood his ground not adamantly but convincingly. A push from the F.M. need not be read as a difference of opinion. Even if it is a difference of opinion, it should be welcome, because that is what democracy is all about. Fair & acceptable differences, sensible debate & consensus is what is needed.Differences need not be blown out of proportion or a Red Herring seen into it.All this however, needs to be done within a reasonable time frame, else economics will be lost into oblivion.It is not a necessity that he must agree with the F.M. & the vice-versa also holds good. Summing it up, the RBI truly has done a wonderful job! Every word of Raghuram Rajan carries weight & deep introspection into it. Lets respect it.Raghuram Rajan has said everything in a few words!
2.The FISCAL POLICY is what the government of the day formulates, puts into action.This is precisely where the trouble lies. So many policies & bills etc. were formulated over a period of time which if implemented in letter & spirit would with very less doubt bring cheer for a large section of the population. However, the reality here has been vastly different. Reason--very simple & straight-- a larger section of people whose interests need to be looked into / pampered, lobbying, pressure groups & the like & umpteen number of reasons which you could delve into.Not to say that the government of the day should turn a blind eye to this totally. But it must act with very firm resolve in ultimate National Interest which is honestly a challenging & daunting task & requires huge sacrifices. If I might say so it could mean sacrificing the whole government to make people see sense into things. In the short run it might mean trouble, but in the longer term deliver positive & sustainable & lasting solutions. Unfortunately, our people have loved to live in euphoria than real time hard ground realities.We decide more on the basis of our emotions than real time logic which can make our lives more balanced & predictable.Blaming Jaitleyji blindly would get no solutions.Let us understand his compulsions also & put in suggestions to him. I believe he is open minded. I have seen a huge difference in the way he conducts himself with the RBI Governor than his predecessor.Genuine differences are welcome, but not diametrically opposite stances which can have disastrous consequences.Till now, considering the Long term action in mind, Jaitley appears to be on the right lane. Only time will tell the results as implementation in letter & spirit is required at all levels to achieve the desired results. Summing it up, THE FISCAL POLICY & THE MONETARY POLICY ARE TWO WHEELS OF A CHARIOT THAT NEED TO GO TOGETHER.AT SOME POINT OF TIME THEY HAVE TO BE ON THE SAME PAGE FOR A SMOOTH TRANSITION into a well oiled, strong, vibrant & healthy economy, the cornerstone of successful good governance. Even if one of them takes an opposing action, you know what happens.There could be minor blips, but as otherwise they are on track.Let us not be doomsayers but die hard Optimists, leaving aside the political crap that might come by.JAI HO!, JAIHIND!, JAI BHARAT!.

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autar krishen koul

Mar 29, 2015

the first responsibility of an efficent RBi governor should be to control infilation in the country.In our country where majority of people are managing thier house hold budgets very tightly,any increase in prices can play havoc with their savings.Also it shall not yield good results from politcal angle also.We have seen that ,as to what happened to UPA-2.It is better for NDA govt. to have a modest growth rate at stable prices than a fast paced gtowth rate at out of control prices . So Mr Rajan watch out for the poor of this country and keep a tight control on monetary policy of this country.We are proud to have you at the right place at the right time. It is good for Mr. Jaitely also. He shall also be judged by how he makes development along with stable prices. Out of control prices shall be a big blow to NDA govt.

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Mar 29, 2015

There is no perceptible difference of opinion between RBI and MOF. It is similar to the difference between the risk department and the credit department- in a commercial bank. The ultimate objective is same and prima facie, no vested interest is involved. Analysis of issues and approaches differ. And we must always remember- only fools always agree, wise men tend to differ often.

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