RBI Governors: prologue: Free Read
THE RBI: ITS FUNCTIONS AND THE ROLE OF THE
GOVERNOR
The RBI was established under the Reserve Bank of India Act, 1934 (RBI Act, 1934) on 1 April 1935 as a private shareholders’ bank, but since its nationalization in 1949, it is fully owned by the Government of India. According to the preamble to the RBI Act, its basic objective is ‘to regulate the issue of Bank notes and keeping of reserves with a view to securing monetary stability in India and generally, to operate the currency and credit system
of the country to its advantage’. Thus, even though there is no explicit mandate for price stability or formal inflation targeting, over the years, maintaining price stability and ensuring adequate flow of credit to facilitate the growth process have emerged as the twin objectives of monetary policy in India. The balance between the twin objectives is dictated by prevailing circumstances and is articulated in monetary policy statements. Considerations of
macroeconomic and financial stability are also subsumed in the articulation of policy.
The RBI is also entrusted with the management of foreignexchange reserves, which are reflected in its balance sheet.
While the RBI is essentially a monetary authority, its founding statute mandates it to be the manager of the public debt of the Government of India and the banker to the government. It is also entrusted with work relating to banking regulation and supervision by a separate enactment, namely, the Banking Regulation Act, 1949. The RBI exercised a tight regime of exchange control under Foreign Exchange Regulation Act (FERA), 1973, till 2000.
With the enactment of the Foreign Exchange Management Act (FEMA), 1999, in May 2000, the objectives of foreign-exchange regulation were redefined as the facilitation of external trade and payments as well as the orderly development and functioning of the foreign-exchange market in India. It is significant that the RBI Act precludes the RBI from performing certain businesses such as trading; taking any direct interest in any commercial,
industrial or other undertaking; purchasing of shares or granting loans against shares of any company; advancing money on the security of immovable property and drawing or accepting bills payable otherwise than on demand. These prohibitions are meant
to protect the integrity of the institution.
As per Section 7(2) of the RBI Act, 1934, the ‘general superintendence and direction of the affairs and business’ of the RBI are entrusted to the Central Board of Directors. The Central
Board, nominated by the government, consists of 14 eminent persons drawn from different walks of life. The secretary dealing with economic affairs in the Ministry of Finance is also a director on the Central Board. He/she can raise issues but cannot vote. Further, the governor and the deputy governors are also appointed by the government as the chairman and non-voting directors of the Board, respectively. The Central Board meets at least six times a year and at least once a quarter. It has the primary authority and responsibility to oversee the RBI but delegates specific functions to the local boards and various committees.
The RBI General Regulations, 1949, mandates a Committee of the Central Board (CCB), which is like an executive board and meets once a week. The CCB quorum demands the presence of at least one non-official director. The weekly meetings review entrusted with work relating to banking regulation and supervision by a separate enactment, namely, the Banking Regulation Act, 1949. The RBI exercised a tight regime of exchange control
under Foreign Exchange Regulation Act (FERA), 1973, till 2000.
With the enactment of the Foreign Exchange Management Act (FEMA), 1999, in May 2000, the objectives of foreign-exchange regulation were redefined as the facilitation of external trade and payments as well as the orderly development and functioning of the foreign-exchange market in India. It is significant that the RBI Act precludes the RBI from performing certain businesses such as trading; taking any direct interest in any commercial, industrial or other undertaking; purchasing of shares or granting loans against shares of any company; advancing money on the security of immovable property and drawing oraccepting bills payable otherwise than on demand. These prohibitions are meant to protect the integrity of the institution. As per Section 7(2) of the RBI Act, 1934, the ‘general superintendence and direction of the affairs and business’ of the RBI are entrusted to the Central Board of Directors. The Central Board, nominated by the government, consists of 14 eminent persons drawn from different walks of life. The secretary dealing with economic affairs in the Ministry of Finance is also a director on the Central Board. He/she can raise issues but cannot vote. Further, the governor and the deputy governors are also appointed
by the government as the chairman and non-voting directors of the Board, respectively. The Central Board meets at least six times a year and at least once a quarter. It has the primary authority and responsibility to oversee the RBI but delegates specific functions
to the local boards and various committees.
The RBI General Regulations, 1949, mandates a Committee of the Central Board (CCB), which is like an executive board and meets once a week. The CCB quorum demands the presence of at least one non-official director. The weekly meetings review to act as an umbrella organization for operating various retail payment systems (RPSs) in India. The NPCI is expected to bring greater efficiency by way of uniformity and standardization in
retail payments and expanding and extending the reach of both existing and innovative payment products for greater customer convenience. In addition, the Central Board has three standing committees.
The Inspection and Audit Sub-Committee has four non-official Central Board directors, and the Building Sub-Committee and the Staff Sub-Committee have at least two non-official Central Board directors each. There are also four local boards for four regions
of the country, each of which has five non-official members, appointed by the government, and a chairman who is one of the directors of the Central Board. The local boards advise the
Central Board on matters remitted to them. In recent years, the conduct of monetary policy has acquired complexity and significance in view of the greater integration with the global economy. Monetary policy refers to the policy of the central bank of the country with regard to the use of monetary instruments under its control to achieve the goals specified in the
RBI Act. The RBI is vested with the responsibility of conducting monetary policy as is explicitly mandated under the RBI Act, 1934. The monetary policy framework aims at setting the policy (repo) rate based on an assessment of the current and the evolving macroeconomic situation and modulation of liquidity conditions to anchor money-market rates at or around the repo rate. Repo rate changes are transmitted through the money market to the entire financial system, which, in turn, influences aggregate demand—a
key determinant of inflation and growth. The governor of the RBI is the ex-officio chairperson of the Monetary Policy Committee, which meets at least four times a year.
The RBI is accountable to Parliament through the Ministry of Finance, and the governor and the deputy governors appear before parliamentary committees, especially before the Standing Committee on Finance, when called upon to do so. Thus, the
formal governance arrangements in the RBI are oriented towards a collegial approach to decision-making. Yet, as in the case of most of the central banks, the governor holds a somewhat unique position in the organization. Convention and tradition do bestow
some authority on the governor, commensurate with his unique position. The governor is the public face of the RBI and is generally thought to be accountable for the actions of the Bank.
The governor of the RBI is the chairman of the Central Board and enjoys full powers of superintendence and direction in all the affairs of the Bank. More importantly, he enjoys a privileged position in the financial system. Although the governor has not been accorded any place of significance in the official warrant of precedence, he enjoys a position of great prestige in official functions. The RBI Act does not contain any qualification for the post of governor. As per the provisions of the RBI Act, the acts of the governor on behalf of the Bank cannot be questioned in any court of law.
Role of the Governor
The RBI governor influences a wide range of microeconomic and macroeconomic issues in the country. His signature appears on currency notes and he controls the country’s monetary, currency and credit systems. His actions influence not only the entire banking system, but also stock markets, the economy and people’s lives at large. It is said that if he sneezes, markets tend to catch a cold! The governor is the sole authority for issuing bank
notes. He also oversees all banking operations in the country. He supervises, administers and regulates exchange control and banking operations. Besides administering the government’s economic policies, he is responsible for issuing licenses to new banks, both private and foreign. It is the governor who announces the monetary and credit policy twice a year, that is, the slackseason and the busy-season credit policies. Apart from this, there is a bi-monthly policy review, in which inflation, interest rate and money supply in the economy are discussed and open market operations (OMOs) carried out. The RBI’s estimation of gross domestic product (GDP) growth in the economy is also announced at the same time. Apart from the above, the governor also controls the interest rates on advances by prescribing the marginal cost of lending rate (MCLR), which is the reference rate or internal benchmark below which banks are not allowed to lend. He prescribes the
minimum cash reserve ratio (CRR) and statutory liquidity ratio (SLR) to be maintained by banks as a ratio of net demand and time liabilities. By making variation in these ratios, the RBI controls the money in circulation with a view to managing the inflation in the economy. He is responsible for ensuring adherence to the provisions of FEMA, 1999. The governor also monitors the issue and exchange (or destruction) of currency and coins unfit for
circulation and ensures adequate supply of good quality currency notes and coins to the public. He is responsible for ensuring that the non-performing assets (NPAs) in the banking sector do not spiral out of control and destabilize the entire banking system. It is his remit to ensure an adequate supply of credit to various sectors of the economy, particularly those with potential for generation of employment to the masses, such as agriculture and the micro, small and medium enterprises (MSME) sectors. He monitors the implementation of government-sponsored poverty alleviation schemes and is also responsible for maintenance of gold reserves and foreign-exchange reserves of the country.
EIGHTY-SIX YEARS OF THE RBI: AN OVERVIEW
The 86 years of the RBI’s existence can be divided into three time periods: before Independence, between Independence and liberalization, and after liberalization. One most important recurring theme that was evident throughout has been independence and autonomy of the RBI vis-à-vis the government.
1935–1947. These first 12 years saw three distinguished governors lead the RBI, only one of them an Indian. Sir Osborne Smith and his successor, Sir James Taylor, were Australian and British, respectively, while the third governor was Sir Chintaman Deshmukh, an Indian.
In the initial years, the concerns of the RBI were shaped by its place as a private limited company where British and Indian businessmen were shareholders. The functions associated with a central bank were actually carried out by the Imperial Bank of India, which is now the State Bank of India (SBI). The RBI became the central bank of the country after it was nationalized in 1949. It also served for a brief period as the central bank of Pakistan and Burma (now Myanmar). Admirably, Smith and Taylor, though tasked with protecting British interests, showed great independence in their dealings and tried to understand the
aspirations of the people of the country that was on the cusp of gaining independence from foreign rule. Deshmukh, as the first Indian governor, was a legend in his own right and inspired many further governors to assert their independence and integrity.
1947–1992
The years between India gaining independence from the British Empire and the liberalization of the Indian economy saw 15 governors of the RBI. Young India saw near-constant political upheaval, both domestic and international: the devastating partition of India was followed by three wars with Pakistan in 1947, 1965 and 1971; India went to war with China; India was gripped by a devastating famine for three years; Indian democracy
saw a long dark time during Emergency and frequent elections and precarious political coalitions meant governments often needed to be bailed out by the RBI. There was no end to the uncertainty, economic and political, that challenged the governors of the institution. It was also the period when the autonomy and the independence of the RBI vis-à-vis the government came to be discussed heatedly due to the Rau–Krishnamachari episode,
which culminated in the resignation of Governor Benegal Rama Rau.
1992–present
After liberalization of the Indian economy, the RBI faced new challenges. The years during which liberalization process was undertaken had been turbulent and transformative for India; the country went from being forced to pledge its gold to the International Monetary Fund (IMF) on account of a balance of payments crisis to having huge foreign-exchange reserves of over $638 billion. All through this, the RBI managed to maintain price
stability while also focusing on growth. From being a country on the brink of insolvency to one of the fastest-growing economies in the world, India’s transformation during this period has been remarkable.This period saw the relationship between the RBI and the government transform significantly with the passing of the Fiscal Responsibility and Budget Management Act (FRBM), 2003. A landmark in the RBI’s history and culmination of the efforts of many successive governors, particularly C. Rangarajan’s, Bimal Jalan’s and Y.V. Reddy’s, this legislation recognized the government’s responsibility to maintain financial discipline. The
legislation required the government to limit the fiscal deficit to a stipulated percentage of the GDP, so that the RBI did not have to issue ad hoc treasury bills to fund the deficit. This single measure has led to many government initiatives for raising resources and
controlling fiscal deficit.However, this period also saw the relationship between the RBI and the government becoming strained to its very limits sometimes. As the stakes grew higher in an India that was becoming an international economic force to be reckoned with, the relationship between the governor of the RBI and the government grew more important, and it reflected in the improvement of economic decision-making. Governors with
bureaucratic experience, like Rangarajan, Jalan and Reddy, had an easier time communicating with the political bosses and bringing about necessary reforms. Governors from academia, like Rajan and Patel, had a harder time accommodating wishes of political masters in their decisions, leading to differences with the government, which resulted in them choosing either to retire instead of accepting extension of their tenure (Rajan) or leave
well before their term ended (Patel).Rajan and Patel, like many other governors of the RBI, are gifted economists and could foresee many of the troubles that would
arise in the Indian economy during the process of liberalization, including an enormous increase in NPAs in the banking sector that would not be taken seriously by the government and would lead to destabilization of the entire banking sector. The bold and effective measures they introduced have been carried forward by the present governor, Shaktikanta Das, who had effectively handled the turmoil during demonetization of currency notes
in 2016 as secretary of economic affairs in the Ministry of Finance. He ensured India’s financial survival through a pandemic (COVID-19) of mammoth proportions. Das rose to the occasion and ably guided India through the unsurmountable difficulties during the pandemic, without losing track of other targets like the recovery of bad debts and corruption in the banking sector.
The last few decades have seen the RBI hog the limelight in a way it never did before the proliferation of media and widespread internet access. The actions of the governors and the policies of the RBI have a far-reaching impact on the daily lives of the masses and the businesses. It is to the credit of the governors, India’s unsung heroes, that they continue to work silently, undeterred by the opinions of the masses they serve, who are perhaps unaware that had these gentlemen ignored the gravity of their position and failed in their assigned duties, overall life would have been much miserable.
TRIVIA
1. The state with the largest number of people occupying the seat of the governor is Tamil Nadu (four), while three each were from Maharashtra, Punjab, Andhra Pradesh and West
Bengal. Two were from Gujarat and one each from Rajasthan, Bihar, Karnataka, Odisha and Madhya Pradesh. Of the 25, two governors were from other countries (one from Australia
and another from Great Britain) and 23 were from India.
2. Sir Benegal Rama Rau enjoyed the longest tenure as the governor of the RBI with seven years and six months, while Amitav Ghosh was the governor for only 21 days.
3. Two of the governors of the RBI later became finance ministers of India. They were Sir C.D. Deshmukh and Dr Manmohan Singh. Dr Singh has the distinction of becoming the prime minister of India twice and has served the country as prime minister from 2004 to 2014.
4. Seven governors resigned during their tenure. Osborne Smith, Benegal Rama Rau and R.N. Malhotra resigned due to differences with the government over policy matters.
S. Jagannathan resigned ostensibly to join the IMF as its executive director, while K.R. Puri was asked to resign due to a change in government. Bimal Jalan resigned as he was elected to the Rajya Sabha and Urjit Patel resigned on personal grounds, but it is widely speculated that he, too, resigned due to differences with the government over policy matters.
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