Ever since the NDA government came to power in June 2014, the finance ministry led by Mr. Arun Jaitley and the Reserve Bank of India led by Mr. Raghuram Rajan has been constantly engaged in a turf war. This can be attributed to the fact that while the major focus of the government lies on attracting foreign investment and raising capital to jumpstart the Indian economy whereas RBI has been making all out efforts to control the wholesale and consumer inflation which acts as a counter balance to the governments aspirations. The government wants to capitalise on the considerable reduction in global crude oil prices and the positive sentiment with respect to it by reducing its fiscal and current account deficits by attracting foreign investment which can be greatly aided by a lower lending rate by the central bank. Contrary to it the Reserve bank has been reluctant regarding lowering the interest rates. As a result there has been a constant battle of wits going on between the two which has led to the discussion on who should control the monetary policy of India.
However this is not the first time this conflict is happening. On March 24, 2011 Financial Sector Legislative Reforms Commission was formed by the then UPA government to review and rewrite the legal-institutional architecture of the Indian financial sector. This Commission is chaired by a former Judge of the Supreme Court of India, Justice B. N. Srikrishna and has an eclectic mix of expert members drawn from the fields of finance, economics, public administration, law etc. after a lengthy and detailed analysis it submitted its report to the Ministry of Finance on March 22, 2013 containing a draft Indian Financial Code to replace the bulk of the existing financial code. It recommended formation of a Monetary Policy Committee (MPC) should be established to decide on how to exercise RBI’s powers. This was followed by a report from Urjit patel committee which further endorsed FSLR commission’s findings to vest the decision making power to a monetary policy committee. The draft proposed by the FSLRC as to the framework of this monetary policy committee has been revised multiple times during the past years.
As per the revised draft of the Indian Financial Sector on July 2015, The Monetary policy committee will consist of seven members. That would include the RBI Governor as its chairman, an executive director of the RBI Board, one RBI official and four members appointed by the Central government. The major differentiating factor of this draft from that presented by the Urjit Patel committee is the presence of more government nominated members and the absence of any veto powers vested to the RBI governor. As a result of this, the RBI governor cannot veto any decision made with respect to the monetary policy by the committee and has to accept it in case the decision is passed by the majority of the members. Members of the Monetary Policy Committee will meet once every two months, will serve for four years and enjoy privileges equivalent to those provided to an executive member of the RBI board. Each member will have one vote and the decisions of the Monetary Policy Committee will be carried by majority. The draft says that each member will have to submit a line justifying their vote and that the decisions of the Monetary Policy Committee will be binding on RBI. The government is keen on bringing an amendment to apply these changes in the financial framework during the winter session of the parliament. It is expected that it would be soon be passed by the Ministry of Finance and the council of ministers before being tabled in the parliament.
If implemented, India will not be the only major economy following this model. It directly emulates the Monetary Policy Committee (MPC) model followed by United Kingdom where Committee members meet for two and a half days every month to decide the official interest rate in the United Kingdom. They are also responsible for directing other aspects of the government's monetary policy framework, such as quantitative easing and forward guidance. The similarity doesn’t end here; the Committee also comprises of eight members along with the Governor of the Bank of England and is responsible primarily for keeping the Consumer Price Index inflation in check, a job it has done commendably well.
On the other hand most many of the other major economies of the world like USA and Japan provides complete autonomy to the central bank while deciding the monetary policy of the country. In US we have the Federal Open Market Committee (FOMC), a committee within the Federal Reserve System (the Fed), which is charged with overseeing the nation's open market operations. Similar is the case with Japan where the Bank of Japan holds similar power and responsibility.
In a fast developing economy like India, there will always be a power tussle between the Central Bank and government on how to exploit the market conditions for optimum growth of the economy. There has always been a healthy respect between RBI and government of India. The difficulty in current system is that it personalizes policies too much. This means you can make mistakes. Committees formed with representation both from the central bank and government would be less prone to mistakes. Where RBI has got the technical qualifications to make all the macroeconomic decisions, the government is the representation of the people representing their aspirations to grow and develop, thus a very vital stakeholder in the RBI’s decision making process. Therefore a tussle between these two institutions for the betterment of the economy may produce some hiccups but the end result would always lead to the betterment of the people.