The governor of the Reserve Bank of India, Raghuram Rajan, has expressed his desire to return back to academia and will not continue as the central bank governor when his term expires in September.
Reuters
reported that there are seven candidates to take over as the next RBI Governor.
- Vijay Kelkar
- Rakesh Mohan
- Ashok Lahiri
- Urjit Patel
- Arundhati Bhattacharya
- Subir Gokarn
- Ashok Chawla
Two finance ministry officials, Shaktikanta Das and Arvind Subramanian, who market participants had previously speculated might be candidates, have not been shortlisted.
In a letter to his staff, he stated that he was initially keen on seeing certain developments through: The monetary policy committee that will set policy has yet to be formed; the bank clean up initiated under the Asset Quality Review is still ongoing. However, on consultation with the government, he has decided to move on. (Not surprising.)
You can read his letter here.
How he thinks
Way back in 2008, Rajan (at that time professor at University of Chicago) headed a committee that produced a report on financial sector reforms titled A Hundred Small Steps.
Rajan noted then that the central bank had a medium-term inflation objective but had also gamely taken on the additional objective of being responsible for a stable exchange rate. Nothing wrong with that except that the RBI, by trying to do too many things at once, risked doing none of them well.
The report explained that a central bank needs to control the public’s expectations of inflation in order to manage actual inflation. If workers think prices are not going to increase rapidly, they are less likely to demand a compensating increase in their wages, thus preventing an inflationary spiral from taking off. But if the public never knows whether the central bank is going to focus on the nominal exchange rate or the inflation rate, it is confused. It is likely to have higher inflationary expectations, and be more sensitive to any local price jump, which even if from imported goods like oil, could initiate an inflationary spiral.
This confusion is compounded when foreign capital flows into the country in copious amounts, since this pushes the exchange rate to appreciate. While the central bank can intervene in currency markets, eventually, the central bank has to decide whether to allow the nominal exchange rate to appreciate or allow higher inflation. A central bank with multiple objectives will flit between the two, implying further confusion and possibly adding to inflationary expectations.
Rajan’s views can be summarized as:
- The RBI can best serve the cause of growth by focusing on controlling inflation, and intervening in currency markets only to limit excessive volatility.
- Despite a dogged focus on a single objective for monetary policy - low and stable inflation, he does not advocate a trade-off between growth and inflation. He is of the opinion that well-anchored inflation expectations are the best tonic that monetary policy can provide for growth. Low and stable inflation reduces macroeconomic volatility and is good for financial stability.
- He also believes that exchange rate volatility is lower in inflation targeting economies. While there are shocks that will buffet the exchange rate, stable macroeconomic policies at least prevent those policies from themselves becoming a source of uncertainty.
- Moreover, focusing on an inflation objective can be useful in communicating that the fire power of monetary policy is finite.
A vocal critic
He was openly skeptical of the Modi government's 'Make in India' drive believing that India has missed the bus in becoming a global manufacturing hub, adding that either an incentive-driven, export-led growth or import-substitution strategy may not work for the country in the current global economic scenario. Instead, he stated that it should be a 'Make for India' campaign, given the huge domestic market.
At an event organized by FICCI in 2014, he said that an export-led growth strategy would not pay for India as it did for China, due to the tepid global economic recovery, especially in the industrial countries. "A regional focus for exports will pay off. But the world as a whole is unlikely to be able to accommodate another export-led China,” he said.
In a speech to business students in Kashmir, he cautioned against manufacturing working in India as it did in China. "India is different, and developing at a different time, and we should be agnostic about what will work.”
He was critical of the Modi government on various other fronts too, spoke of the need for tolerance and was also skeptical about the GDP calculation.
In fact, speculation was rife two years ago on whether or not the Modi government would retain him since they were stern critics of the high-interest-rate regime. Piyush Goyal, National Treasurer of the BJP, openly stated that Rajan was “aggravating the problems and making it worse by increasing interest rates”. Subramanian Swami, an economist and BJP ideologue, put it even more starkly when he told Reuters that they can “make it worthwhile for him to leave.”
Naturally, this led to speculation and concerns that Rajan could come under pressure from the new government to take a less hawkish stance on inflation to revive economic growth. But Rajan was no walkover. At the Gallen Symposium in Switzerland, he boldly asserted the independence of the central bank. “I determine the monetary policy. I say what it is. The government can fire me, but the government does not set the monetary policy.” Not to forget his famous snide when he took over that he is not in the race to garner Facebook ‘likes’.
So while it is certainly sad to see him leave, one really should not be surprised at the lack of enthusiasm on the government's part to hold him back.
The next governor will have big shoes to fill.
