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P. Devarajan

AT a recent farewell lunch to the media, Dr Bimal Jalan, Governor, RBI, admitted to "RBI autonomy by convention" particularly in the conduct of monetary policy and added the RBI did not face any problem with the Finance Ministry.

On the concept of a "super regulator", Dr Jalan said, "We are not there yet." On September 6, Dr Yaga Venugopal Reddy turns in on Mint Street as the RBI Governor. With the economy seemingly looking up, the Jalan prescription could be put to test as Dr Reddy could be looking at problems of speeding economic growth with its inevitable interface with inflation, the structure of interest rates and fiscal stance. If growth picks up as estimated the call on liquidity by next year could be substantial forcing the RBI to re-examine its "soft stance" on interest rates in the event of prices moving up. At present, a flat yield curve probably hints at the absence of "inflationary expectations" brought on by a good crop compensating any sharp rise in petro prices. Perhaps, some clues could be provided by the essay, "Autonomy of the Central Bank", delivered by Dr Reddy on October 3, 2001.

The venerable and smiling Dr Reddy, whom some bankers dub as the Laughing Buddha bringing good luck to Mint Street, has split the evolving relationship between the Government and the RBI into four distinct phases. Legislation to set up the RBI was first brought in January 1927 while the enactment was made in March 1934. The RBI took orders from the Government and had to survive threats to its board being superseded if RBI disagreed. In 1948, RBI was nationalised and the era till 1969, Dr Reddy considers "as the maturing of RBI into a full-fledged professionally managed central bank." At this time, Governor Iengar flagged four areas of potential conflict between the central bank and Government: interest rate policy, deficit financing, co-operative credit policies and management of sub-standard banks. Dr Reddy adds: "It may be of interest to note that even now, these four areas are still at the topmost of RBI's concerns." The third phase, starting 1969, was marked by Government ownership of banks. "The fundamental factor affecting the relationship was the combined effect of Government's ownership of major commercial banks and the persistence of high fiscal deficits, which posed serious problems for prudent monetary management," contends Dr Reddy. In the last phase, beginning 1991, the RBI has enjoyed considerable instrument independence for attaining monetary policy objectives, is the belief of the new incumbent on the 18th floor of RBI Towers.

An emerging threat is the amendment to Banking Regulation Act insisting on Parliament okay for every RBI notification. The RBI did protest to the Law Ministry. Dr Reddy may have to get the idea deleted apart from pushing Parliament to okay changes in various Acts enabling Government to step out of the financial system, marking the fifth phase.

An important point has been made by Dr Reddy in his essay and that reads: "Given the complexities in separating the two too rigidly and given the advantages of co-ordination, a minimum requirement should be that their relationships and transactions be reported as transparently as possible and that the integrity of the two separate balance sheets be maintained."

The Bank of England probably was the first to make public its talk with the Chancellor of the Exchequer. If Dr Reddy can pin down the Finance Ministry to the idea, Mint Street will be aware of the status of reforms fuelling economic growth more than any other Government paper.

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