Imperatives for Reserve Bank of India – Agenda for Raghuram Rajan

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A major milestone in the history of the Reserve Bank was its nationalization in 1949. The RBI was nationalized with the passing of the Reserve Bank of India (transfer to public ownership) Act in 1948. In terms of the Act, all the shares were transferred to the central Government on payment of compensation to the shareholders. Thus, after January 1, 1949, the Reserve Bank of India functioned as a state-owned and state-controlled (nationalized) bank. The nationalization of the RBI was also supplemented by the passing of the Banking Regulation Act, 1949, conferring on the central bank the vast power to control the activities of the commercial banks. In the same year, the Banking Companies Act (later renamed as the Banking Regulation Act) was passed, which required the banks to maintain liquid assets for the first time..

"Out of all the RBI governors, Bimal Jalan (1997-2003), stood tall for his crisis management skills. Jalan became the RBI governor in November 1997, when the Asian financial crisis was at its peak. A series of problems like the US sanctions, the Kargil War, an oil crisis, and the US invasion of Iraq followed, and Jalan brought in sweeping reforms. The Financial Express, highlighting the large number of Jalan’s achievements during his tenure as governor, said, “The external sector management, the control of inflation, the strengthening of the banking system, internal debt management, regulation and supervision, currency management and internal reforms on HRD were all handled with sagacity, élan and style......."

"Raghuram Rajan, appointed as the 23rd governor of the RBI on September 4, 2013, for a tenure of three years, had a remarkable background. Analysts felt this would help him manage the Indian economy, which was at its lowest point since 1991. Rajan became the youngest-ever chief economist at the IMF at the age of 40 and served there during 2003-2006. Rajan was one of the few economists who predicted the 2008 financial crisis correctly. In 2012, he was appointed as Chief Economic Adviser to India’s Finance Ministry. He was known as an economist with a rockstar appeal and was among the top 10 economists of the world in 2012......."

"In the first two months, Rajan raised the central bank’s main lending rate twice to control inflation. This was despite knowing that the government preferred a reduction in interest rates to boost the economy. The RBI’s repo rate, the rate at which the RBI lent money to banks, was raised for the second time on October 29, 2013 to 7.75%. This move came after October 2013’s CPI inflation stood at a worrying 10.9%, WPI inflation at 7%, and food inflation at an alarming 18.9%. According to analysts, Rajan was following in the steps of Subbarao, who had raised the repo rate a record 13 times – from 4.75% to 8.5% during March 2010 and October 2011......."

"According to the RBI, India’s widening current account deficit, which was the main reason for the rupee’s decline, was estimated to come down to USD56 billion (3% of the GDP) for the fiscal year 2013-2014, when compared to a deficit of USD88 billion (4.8% of the GDP) in 2012-2012. The decline in gold imports was expected to narrow the current account deficit, and as a result, according to Rajan, there was no fundamental reason for the rupee’s decline. However, analysts opined that India which imported79% of its oil imports, would continue to face a high current account deficit, and, as a result, the rupee was likely to continue weakening over the long term...... "

"There were a lot of expectations that Rajan would tackle the most serious economic problems in more than two decades. However, according to Rajan, a central bank governor could only affect access to finance. In this regard, he devised five pillars of financial reform which were: clarifying and strengthening the monetary policy framework; reforming the banking system; liberalizing Indian markets; increasing financial inclusion; and sorting out financially distressed financial institutions........"

"Fondo De Restructuracion Ordenada Bancaria (FROB), the Fund for the Orderly Restructuring of the Banking sector, was an institution under public law founded in Spain in 2009. It presided over the restructuring and mergers of the cajas in the country. In order to make the working of the cajas more efficient, FROB gave loans to 45 cajas which merged with each other to form 15 cajas. In 2010, a Catholic Church run savings bank ‘Cajasur’ was taken over by FROB and later the same year, government equipped FROB with extra powers to provide cash to lenders to raise their capital ratios up to minimum levels......"

Exhibit I: Performance of RBI Governors during Their Tenures
Exhibit II: Raghuram Rajan’s Main Initiatives (First 60 days)
Exhibit III: RBI’s Measures
Exhibit IV: India’s Stubborn Inflation (2002-03 to 2012-13)

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