The government is unlikely to get the kind of fiscal support it was expecting from the Reserve Bank of India (RBI), going by initial comments from members of the expert committee set up to review the economic capital framework of the Indian central bank. The committee ended its deliberations last week after repeated postponements. It was originally mandated to submit its report to the RBI within 90 days of its first meeting, which took place on January 8. The panel was given a three-month extension at that time. Chaired by former RBI governor Bimal Jalan, the committee is reported to have recommended a nominal transfer of surplus capital in a phased manner. The committee is likely to submit its recommendations in the next few days with Finance Secretary Subhash Chandra Garg’s dissent note, possibly because of disagreements on the amount and timing of transfers.
The idea of transferring the surplus in a phased manner should be welcomed. Although the contents of the report are not yet public, the transfer from the central bank is unlikely to alter India’s fiscal reality in a significant manner. The Economic Survey in 2016 suggested using the central bank’s surplus capital for recapitalising public sector banks. The issue became a bone of contention between the government and the RBI last year, which led to the constitution of the Jalan committee in December 2018. Naturally, the government would want a higher transfer because it will help ease some fiscal pressure and increase expenditure in the short run. It is expecting a dividend of Rs 90,000 crore from the central bank in the current year.
While it would be interesting to see the committee’s commentary on the framework, Rakesh Mohan, former RBI deputy governor and vice-chairman of the committee, highlighted several important issues related to the central bank’s balance sheet in an article in this newspaper in October 2018. First, at the net level, the transfer of capital does not create new revenue. It will shrink the size of the RBI’s balance sheet. As a result, the central bank would hold fewer securities, which will affect the future flow of income. As Mr Mohan noted: “The longer-term fiscal consequence would be the same if the government issued new securities today to fund the same expenditure.” Second, transfers like these can erode confidence in fiscal management. Third, it is important that the central bank has enough capital to appropriately implement monetary policy and adjust to foreign exchange movement, among other things.
Since the transfer from the central bank will, at best, be only a short-term relief, it should be used judiciously to improve the productive capacity of the economy. Transferring capital in a phased manner will allow the government to channelise funds more efficiently. The government would do well to not use this for day-to-day expenses or revenue expenditure because it will not be permanent and affect the future flow of income.
At a broader level, the demand for higher transfer from the central bank, and the fact that a committee is addressing the issue, underlines the fiscal stress.
For better fiscal outcomes, the government should evaluate its revenue and expenditure more realistically. Depending on transfers from the central bank or other regulators, higher tariffs on imports, or increasing the marginal rate of income tax for a small minority of rich taxpayers will do more harm than good in the long run.