When Viral Acharya, RBI's outspoken Deputy Governor, batted for RBI's independence, he made one PR mistake that only a technocrat would: he warned that governments that do not respect central bank independence "incur the wrath of financial markets". This made the RBI's critics ask the question - is our central bank working for the people of India - especially the 6.7 crore small businesses which employ over 11 crore people - or just the affluent 2% who invest in the markets? Why is the RBI, which is loath to accept government control, so unquestioning when it comes to accepting the diktats of international finance?
Such questions have great political resonance, especially at a time when India's micro, small & medium enterprises (MSMEs) are finding it very tough to get loans. No wonder, RBI's biggest critic, S Gurumurthy - the political appointee on its board - has publicly blamed the regulator's tough prudential norms for the slowdown in MSME credit.
RBI's own data shows that bank lending to MSME sector has dropped from 4.2% of GDP in 2013-14 to just 2.8% of GDP in 2017-18. Small businesses have had to turn to Non-Banking Financial Companies (NBFCs) for funds. Since the IL&FS crisis, even that has dried out, because NBFCs themselves aren't being able to raise funds.
In an election year, this can be disastrous for the BJP, which has been steadfastly supported by small entrepreneurs. In many cases, they form the backbone of the party's local units. The Modi government needs to quickly address their problems.
After yesterday's marathon 9-hour board meet, the RBI has capitulated on that key political issue - recasting loans to small businesses. Loans given to MSMEs up to 25 crores can now be restructured which means MSMEs will find it easier to get loans again. But why do small business need their loans to be restructured? GDP data tells us that India is the fastest-growing economy in the world. Shouldn't such high-growth have made it easy for entrepreneurs to earn high profits and pay back their loans on time? Clearly, whatever our headline growth numbers might be saying, things aren't good on the ground.
What caused this? Most observers agree it was because of the twin blows of demonetisation and GST. The Modi regime's claims that millions of small businesses have got substantial Mudra loans has also been questioned by pundits and critics. The government, of course, has denied this. But its de-facto chief economist, S Gurumurthy - an ardent defender of demonetisation - admitted in a recent speech that "(i)t is the MSME sector which was hit by both demonetisation as well as GST. It is this sector which has been robbed of credit."
Having engendered the crisis, the government now wants the RBI to solve it. Its great resolve to clean India's NPA-ridden banking system has been put on the backburner now that elections are just a few months away. Admittedly, MSMEs account for less than 8% of the 10.3 lakh crores of NPAs, but as of June 2018, over 15% of loans given to MSMEs by public sector banks had gone bad. Easing norms could lead to a new MSME-driven NPA crisis.
The Modi government knows giving relief to small businesses will not be enough - it has to boost public spending to improve farm incomes, write off farmer loans and generate rural jobs. That will be tough, given its fiscal deficit target. And that is why the government is eyeing RBI's reserves. India's central bank has about 9.6 lakh crores in reserves. Raghuram Rajan, former RBI chief, had claimed this level is necessary for the central bank to manage money supply, balance India's foreign currency needs and ring-fence itself in case of an economic crisis.
Arvind Subramanian, the former Chief Economic Advisor, however, repeatedly argued that RBI's reserves are far higher than that of other countries. If the RBI were to bring down its reserves as a percentage of its balance sheet to a number closer to the global mean, it would be able to give back 3.5-4 lakh crores to its sole share-holder - the government of India. That would be a one-time windfall, equal to about 15% of the total expenditure estimated in the budget for 2018-19. It is 55-65% of the fiscal deficit. It can fund this year's MGNREGA 7-8 time over. It can fund 11-12 National Health Missions and 20 Swachh Bharat Missions. It can generously recapitalise India's banks, without them having to raise funds from the markets.
But the trouble is that most of RBI's reserves are actually accounting entries caused by the revaluation of its foreign currency assets and gold reserves. As the rupee value of foreign currency assets and gold has gone up, the RBI has had to add to its foreign currency reserves to deal with another 2008-type global financial crisis. The RBI's actual usable reserves - its contingency reserves - are just 2.3 lakh crore, an amount that has grown just 5% in the past five years. Therefore, the RBI has very little to give to the government without creating a potentially unstable situation for itself.
India's central bank has often been made the scapegoat when the economy has slowed down. Successive governments have wanted the RBI to stimulate the economy through easy money policies. We all know what easy credit flows during the UPA years did to India's government banks. Now, it seems, the Modi government also wants to take this easy route.
(Aunindyo Chakravarty was Senior Managing Editor of NDTV's Hindi and Business news channels. He now anchors Simple Samachar on NDTV India.)
Disclaimer: The opinions expressed within this article are the personal opinions of the author. The facts and opinions appearing in the article do not reflect the views of NDTV and NDTV does not assume any responsibility or liability for the same.