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Raghuram Rajan and Urjit Patel: A tale of two RBI governors

LiveMint logoLiveMint 07-09-2017 Alekh Archana

Mumbai: At a monetary policy press briefing in January 2014, then governor Raghuram Rajan was asked by a reporter why the Reserve Bank of India (RBI) had acted like a hawk and spoken like a dove. The question was in the context of the central bank raising its key interest rate by 0.25 percentage points and then saying no further increase would be required if consumer price inflation stayed on its projected trajectory.

Rajan replied that RBI was neither a hawk nor a dove, but an owl, and asked then deputy governor Urjit Patel to elaborate for the audience.

This was what the usually terse Patel said: “Well, an owl is traditionally a symbol of wisdom; so we are neither doves nor hawks but owls and we are vigilant when others are resting.”

Patel who completed one year as RBI’s 24th governor on 4 September, has certainly been vigilant—some would say overt-vigilant—when it comes to upholding the inflation-targeting mandate of the Reserve Bank.

His critics, much as the critics of his predecessor Rajan, have faulted him for erring too much on the side of caution at a time when economic growth needed monetary impetus.

After cutting the repo rate, at which RBI infuses liquidity into the banking system, by a quarter of a percentage point in October, the monetary policy committee headed by Patel left borrowing costs untouched at four consecutive policy reviews until August, when it lowered the rate by a similar extent. The markets had been expecting a cut of at least half-a-percentage point in August.

Critics have even questioned the communication skills of Patel, 53, who has limited public appearances to monetary policy press briefings.

For instance, Patel has delivered only six speeches since he became governor.

His predecessor, Rajan, who was given the tag of a ‘rock star’ by the media, writes in his book that he “gave a speech on average once a month”.

ALSO READ: The bad loan resolution process should reach a logical end: Raghuram Rajan

Unlike Rajan, 54, who became governor in September 2013 when the rupee, along with other emerging market currencies, was in a free fall during the so-called temper tantrum that followed US Federal Reserve warnings of an end to economic stimulus, Patel took office when domestic economic fundamentals were stable.

Handling of demonetisation

The lull proved to be short-lived. The role of RBI, under Patel’s governorship, became a matter of public debate after the government on 8 November invalidated high-value currency notes. In one stroke, the government removed 86% of the money in circulation by value, calling it an attack on untaxed wealth hoarded by the rich, terror financing and counterfeit currency.

The immediate consequence was an unprecedented cash crunch and in the week that followed, Patel was found wanting. After he addressed a joint press briefing with then economic affairs secretary Shaktikanta Das in the immediate aftermath of the currency withdrawal, Patel was not to be heard from in the following two weeks.

It was Das who was fielding questions from the media on the note ban and its consequences. The rules on cash withdrawals and other bank transactions kept changing even as questions lingered whether RBI had even agreed to the exercise.

To be sure, the decision to invalidate Rs500 and Rs1,000 currency notes was taken by the government; and as the institution mandated with currency management, RBI had little choice but to accept the move, experts said.

But it was RBI that took most blame for the hardship faced by citizens because of the cash crunch that went on to dent economic growth in the two subsequent quarters.

In their defence

Patel’s silence kept RBI in the political discourse as opposition leaders attacked the institution.

Demonetisation was an extraordinary event that called for more communication by RBI with both citizens and bankers who bore the brunt of the anger of their customers, critics said.

But RBI and Patel do have their defenders.

Demonetisation was a disruptive measure and it could be argued that limited communication was needed because more information could have raised uncertainty and produced unwanted side-effects, said Hugo Erken, senior economist at Rabobank NA’s economic research wing.

For sure, preparations could have been better, he said. New notes could have been printed in advance in secrecy and automated teller machines could have been recalibrated to accept the replacement currencies beforehand.

Even though the decision to go ahead with demonetisation may be questionable, “RBI under Patel’s leadership managed to make available currency across the country in a very short time,” said a member of the technical advisory committee, the erstwhile panel that advised the central bank on monetary policy. This person requested anonymity.

According to former RBI deputy governor R. Gandhi, who was actively involved in the demonetisation exercise, RBI had anticipated certain situations and kept making changes as the situation demanded.

On Patel’s silence, Gandhi said the choice of talking in public is the prerogative of the governor. “This is an individual characteristic and we should not read too much into it,” he said.

Policy pressures

When RBI in October cut the key interest rate, it was seen as a favour to New Delhi by critics although the decision was taken unanimously by the six-member monetary policy committee over which Patel presided. Few had expected a reduction at the time.

The panel’s task is to keep the Consumer Price Index at 4%, the mid-point of a 2-6% target range. The panel noted that the inflation trajectory was benign and investment demand needed to improve. But after the four subsequent policy reviews, the MPC under Patel faced flak for overestimating inflationary pressures and keeping interest rates steady.

In June, the government’s chief economic adviser, Arvind Subramanian, said softening inflation and slowing economic growth warranted a “substantial monetary policy easing”.

In a note, Subramanian said while he respected RBI’s decision to maintain the repo rate steady, there was what he called a “plausible alternative macroeconomic assessment”. As per this assessment, inflation had been well below the central bank’s target while economic growth was slowing.

“Inflation forecast errors have been large and systematically one-sided in overstating inflation. In this (alternative) view, the inflation outlook has been rendered benign by an appreciating exchange rate, a good monsoon and a capping of oil prices by structural shifts,” he said.

Patel has demonstrated his and the MPC’s independence in other ways.

He has stressed the risks of farm loan waivers offered by states, which according to him, spoil the credit culture and entail inflationary pressures. That apart, he has called for a better alignment of administered interest rates paid on small savings schemes to aid faster monetary policy transmission, and also pressed for a faster recapitalization of public sector banks.

In August, RBI said it would pay Rs30,659 crore as a dividend to the government, less than half the surplus it transferred the previous year, potentially affecting the government’s fiscal math this financial year.

A statement by RBI did not specify the reasons, but economists said then that lower returns from foreign asset holdings and the cost of demonetisation—printing new currency notes and managing the increasing liquidity in the banking system—were possible reasons for a fall in RBI’s profits.


Rabobank’s senior economist Erken noted the MPC had refused an invitation by the finance ministry to a meeting to discuss interest rates “which also clearly demonstrates Patel’s independence in determining monetary policy and regard stable price development as the primary goal” of RBI.

According to a senior economist, who did not want to be named, Patel’s strong stand on farm loan waiver and his decision to not transfer the entire surplus to government as dividend shows he is following a path of ‘quasi-independence’.

In the last two policies, decision-making in MPC wasn’t by consensus. Ravindra Dholakia, one of the three external members, voted for a cut in the June policy; Michael Patra, among the three representing RBI, called for status quo in the August policy. This has lent more credibility to the panel, but experts say more communication is needed.

“There is a press briefing and the minutes of the MPC meeting are quite detailed, but still there is need for more frequent communication, especially by the governor, on aspects of liquidity, inflation forecasting, etc.,” a Mumbai-based economist said on condition of anonymity.

He added: “MPC itself is new and Indian financial markets have always been used to a personality-driven monetary policy. Hence, frequent communications could help. Globally central bankers are going for more communication.”

Unfinished agenda

Patel, a Kenyan-born economist, has a lot left on his plate to finish in the remaining two years of his three-year term.

He has to deal with the clean-up of an estimated Rs1 trillion of stressed assets that have piled up in the banking system. The process of resolving bad loans has been sluggish as bankers have been afraid of facing questions over the part of the loan principal and interest they would have to write off to aid loan recovery.

The government has empowered RBI to suggest to, and even compel, banks to invoke proceedings against defaulters. RBI’s role in the resolution of stressed loans has led to a public debate because of potential conflict of interest—the central bank also regulates banks.

Nonetheless, RBI has drawn up a list of 12 large defaulters and asked banks to initiate insolvency proceedings against them at the National Company Law Tribunal (NCLT).

It followed up by sending a second list of at least 26 defaulters to banks, which have been given a 13 December deadline to come up with a resolution plan. In case, banks fail to arrive at a solution, they will have to take these borrowers to the NCLT as well.

Currency demonetisation and its aftermath, the arming of the central bank with greater powers to resolve bad loans and transferring monetary policymaking to a panel are developments that will be counted as “watershed” moments, said former deputy governor Gandhi.

They will also be among the defining moments of Patel’s governorship.

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