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Is the Sun Setting on Central Bankers?

By Prabhakar Mundkur

For once, the choice of the intelligentsia might have been closely mirrored by the government’s decision to appoint Urjit Patel as successor to Raghuram Rajan as the 24th Governor of the Reserve Bank of India. With an M.Phil from Oxford and a PhD in Economics from Yale, he seemed to be best suited to take over the post, along with Subir Gokarn, amongst the many speculations for the position.

The Times of India of August 21, 2016 reported a person close to the development as saying that “apart from continuity, what worked in Patel’s favour is his knowledge of monetary policy. Plus he is in sync with the government’s growth aspiration”.

There is a tragic sense of comedy in this statement because monetary policy comes within the ambit of the Central Bank’s policy, and growth rate is largely a government prerogative and belies their economic performance. Often there is a stressful and contradictory relationship between the two.

The Future of the Central Banker in India

August 2016 in a sense is historic. It is the last month in the RBI’s 81-year history that the Governor gets to decide on interest rates. Future rate decisions will be taken by the Monetary Policy Committee (MPC).

August 2016 was the last month in the RBI's history that the Governor gets to decide on interest rates.

August 2016 was the last month in the RBI’s history when the Governor got to decide on interest rates. | Photo Courtesy: Google Images

Governor Raghuram Rajan had already named Michael Patra as the third member to represent the RBI in the MPC. The other two members are the RBI governor (who will be the ex officio chairperson), and deputy governor in charge of monetary policy, who was Urjit Patel. With Urjit Patel being moved to Governor, R. Gandhi, Deputy Governor, has now taken that position. The government is yet to nominate its own nominees on the MPC. Under the new monetary policy framework, interest rates will be set by the six-member MPC and not the governor.

While the idea of an MPC itself is not new and is the recommended way forward for central banks around the world, our MPC will be different from other countries.

While the idea of an MPC itself is not new and is the recommended way forward for central banks around the world, our MPC will be different from other countries, to the extent that 3 out of the 6 members are being selected by the Government. Of course the RBI Governor will have a casting vote. For the Bank of England for example, the MPC is made up of 9 members: the Governor, the three Deputy Governors, the Bank’s Chief Economist, and the four external members are appointed directly by the Chancellor (The Chancellor of the Exchequer is their equivalent of a Finance Minister in other political systems).

It must be remembered that the government rejected the recommendations of the Urjit Patel Committee to have three members from the RBI and two members nominated by the government on the MPC.

In the US, the Federal Reserve lays out the relationship between the central bank and the government quite clearly when it says ‘As the nation’s central bank, the Federal Reserve derives its authority from the Congress of the United States. It is considered an independent central bank because its monetary policy decisions do not have to be approved by the President or anyone else in the executive or legislative branches of government….’

The Global Scenario for Central Bankers

The Bank for International Settlements is often referred to as the central bank to central banks. Central banks have done their best to keep the world economy healthy, in the face of unending governmental interference and despite a constant barrage of baseless outsider criticism. Unless the world embraces the leadership and wisdom of the central banker with equanimity, we may be inviting a disaster.

As the International Bank of Settlements 2012 Annual Report boldly put it – The extraordinary persistence of loose monetary policy is largely the result of insufficient action by governments in addressing structural problems. Simply put: central banks are being cornered into prolonging monetary stimulus as governments drag their feet and adjustment is delayed. As we discuss in Chapter IV, any positive effects of such central bank efforts may be shrinking, whereas the negative side effects may be growing.”   

As the report states accommodative monetary policies are but palliatives and have their limits. The report states ‘It would be a mistake to think that central bankers can use their balance sheets to solve every economic and financial problem: they cannot induce deleveraging, they cannot correct sectoral imbalances, and they cannot address solvency problems. But that is the global picture on central banks in general.’

Post Script

Let us hope that Urjit Patel has the freedom to take decisions without government interference. D. Subbarao’s ‘Who Moved My Interest Rate?’ is a book replete with instances of government interferences. The Finance Ministry even retaliated against some RBI decisions by rejecting the re-appointment of Deputy Governors, Usha Thorat and Subir Gokarn, claims D. Subbarao who is Rajan’s predecessor.

The government should give freedom to the new RBI Governor to dictate RBI policy in India.

The government should give freedom to the new RBI Governor to dictate RBI policy in India. | Photo Courtesy: Google Images

The function of a Central Bank is laid out quite clearly on the Federal Reserve website when it says  ‘As the nation’s central bank, the Federal Reserve derives its authority from the Congress of the United States. It is considered an independent central bank because its monetary policy decisions do not have to be approved by the President or anyone else in the executive or legislative branches of government…’

The overarching theme for central bankers has been quite simple: to do what the economic situation calls for. They should not and cannot be expected to do much more.

The overarching theme for central bankers has been quite simple: to do what the economic situation calls for. They should not and cannot be expected to do much more. Instead, other economic policymakers must finally heed central bankers’ recommendations for how to clean up their messes, fiscal, structural, and otherwise. As indeed, Raghuram Rajan did when he cleaned up the act of the banking system on the issue of non-performing assets (NPA).

Raghuram Rajan’s time as Governor was unfortunately riddled with public criticism on what he should exactly say when he appeared in public. As our ex Governor, D Subbarao said recently, “I don’t think there should be any code of conduct on what subjects the Governor can talk about,” at a special event at the RBI headquarters to launch his memoir ‘Who Moved My Interest Rate?’.

“I don’t think its advisable to compartmentalise that he talks about issues relating only to central banking…to say that the Governor should not go beyond central banking, I think is ill-advised. If the Governor is indeed a public intellectual as Governor Rajan is, I think it would be good, appropriate, advisable and desirable that he speaks about those issues,” he said.

However, there is also the opposite view. Purists say, too much talk by central bankers risks confusion and volatility in financial markets. The fact that Urjit Patel seems to shun public appearances may in fact help the situation and reduce possible conflict.

In closing, one can only hope that Patel is not only given the freedom from the government to dictate RBI policy in India but is allowed to speak as a public intellectual on whatever subject he chooses, in spite of his reputation for being quiet and reticent.

The RBI Governor’s position is unenviable, as is the position of every central banker. While he has to listen to the government because it is a large stakeholder, he cannot sacrifice the interests of the public at large and has to be finally guided by his own reasoning and the strength of his personal conviction.


Prabhakar Mundkur currently works as Chief Mentor at HGS Interactive. He is also on the Advisory Board of Sol’s Arc—an NGO involved with education for children with special needs.

Featured Image Credits: Capitol Standard via Unsplash

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