The following article is based on my own interpretation of the said events. Any material borrowed from published and unpublished sources has been appropriately referenced. I will bear the sole responsibility for anything that is found to have been copied or misappropriated or misrepresented in the following post.
Ambikesh Mishra, MBA 2014-16, Vinod Gupta School of Management, IIT Kharagpur
The relationship between North block & mint street has been a sophisticated but manageable mistrust for years. The RBI governors have used diplomacy, humour, media support and the reputation of RBI as an honest institution to manage the relationship with government of India. Add to this the power brought in by chief economic adviser, C Rangarajan, a former RBI governor himself and Manmohan Singh, another former RBI governor, the central bank had enjoyed a lot of autonomy and staved off the finance ministry.
But times have changed and today we have a strong centre, a strong PM and a strong vocal organisation in RSS. The magnitude of expectations people have by strong government is not going to make the job of Governor Raghuram Rajan any easy. Rajan has convinced New Delhi that RBI, like many central banks, should pursue ‘inflation targeting’; it means, RBI’s primary and possibly only job is to tame inflation — pull it up if it fails, but don’t blame it for anything else. The finance ministry readily agreed but threw in a condition that RBI will have nothing to do with the debt market. This condition has become the bone of contention between the two.
RBI has always acted as the i-banker of the government. Govt has decided how much to borrow and RBI has decided when and at what price to borrow. This practice has been in contrast to the RBI’s role as central bank in curbing the inflation. As investment banker RBI would help Govt raising money with lower yields whereas as central banker RBI would someday want yields to be higher to control inflation.
If it parts with the power over govt bonds, RBI will loose an important tool which it can use to control the liquidity in the market. Currently, the central bank restricts direct access to the debt market. Large retirement funds, banks, mutual funds, primary dealers, large finance companies and very few debt brokers are the only ones to directly trade on the faceless, order-matching platform over which Sebi has no jurisdiction.
Now, if government bonds trade like shares then brokers will freely procure govt security trading terminal & traders, corporates and speculators will start punting. It will not just reduce RBI’s role as super regulator & increase SEBI’s power, but also would make RBI’s job much more difficult. There may be times when market will test RBI, as more influential central banks have discovered when traders with deep pockets tried to test them like the black Wednesday created by George Soros. Well, we guess that’s just the price for opening up the market.