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Interview with former Governor, Reserve Bank of India: ‘There will be upward pressure on inflation because of high commodity prices’

Subbarao, who was the Union Finance Secretary before becoming the RBI Governor, spoke about the RBI prioritising growth over inflation, need for job intensive growth, risks to the economy and the manufacturing push.

Written by George Mathew | Mumbai |
Updated: February 14, 2022 7:37:06 pm
Reserve Bank of India, Duvvuri Subbarao, Duvvuri Subbarao interview, Inflation, Retail Inflation, job intensive growth, Indian economy, Business news, Indian express business news, Indian express, Indian express news, Current Affairs“I find it curious that most advanced economies are still circumspect about CBDCs, while emerging economies like India and China are moving forward briskly” Duvvuri Subbarao (File)

Foreign portfolio investment outflows in the wake of the US Fed tightening are unlikely to cause any macro instability because India’s external sector today is a lot stronger than in 2013, says former Reserve Bank of India (RBI) Governor DUVVURI SUBBARAO. In a conversation with GEORGE MATHEW, Subbarao, who was the Union Finance Secretary before becoming the RBI Governor, spoke about the RBI prioritising growth over inflation, need for job intensive growth, risks to the economy and the manufacturing push. He also says the digital rupee is unlikely to be a gamechanger. Edited excerpts:

RBI has prioritised growth over inflation. Do you think the central bank risks falling behind the curve?

Balancing between growth and inflation is always a challenge for monetary policy, and is much more so in uncertain times such as now. Going forward, there will be upward pressure on inflation because of higher commodity prices, particularly of crude … skirting around $90/barrel, firms passing on input price pressures to output prices, hardened inflation expectations and the services sector reopening. On the other hand, RBI seems to have factored in significant easing of supply side bottlenecks and a good Rabi harvest in its inflation estimates. RBI has judged that the ongoing recovery is still incomplete and needs policy support. Should the real economy conditions evolve contrary to these calculations, I am sure the RBI will act swiftly to make a course correction.

What will be the impact of the US Fed tightening on India? Taper tantrums 2.0?

There will certainly be taper but possibly no tantrums. The Fed is expected to raise rates faster than earlier thought because of rising inflation in the US. In response, capital inflows into emerging markets such as India which came in search of quick returns will exit.

Some exit has in fact already happened. Nevertheless, these outflows are unlikely to cause any macro instability because our external sector today is a lot stronger than in 2013. There is no hidden pressure in the exchange rate. Notwithstanding its recent widening, the current account is still within safe limits and our forex reserves are plentiful. Besides, relatively stable flows like FDI and NRI deposits have been steady. There is, of course, need for caution but no need for anxiety.

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The Finance Minister said that the RBI will issue a digital rupee next year. Do you think that will be a gamechanger?

The short answer: no. Central bank digital currencies (CBDCs) are still largely uncharted territory. Only about a half dozen countries, all relatively small economies, have issued CBDCs so far. So, there is not much experience to fall back on. I find it curious that most advanced economies are still circumspect about CBDCs, while emerging economies like India and China are moving forward briskly. Evidently, the motivations for them are different. I think emerging markets in particular are driven by fear and opportunity… fear that in the absence of a CBDC, their monetary and financial stability will be threatened by some credible private cryptocurrency issued by a technology company such as Facebook, for example. They also see an opportunity in CBDCs of reducing the cost of printing and distributing currency. The bottom-line though is this: for people who have already shifted to UPI-based payments, I don’t believe the arrival of the e-rupee will in any way change the user experience.

What are the near-term risks to the economy?

Another Covid wave is an obvious risk. Global recovery getting off track or the geopolitical situation deteriorating are two big external risks. On the domestic front, rising inflation and slipping up on execution of the massive public investment, especially at the state level, are two prominent risks. Any self-doubt on the part of the government in implementing reforms, particularly privatisation, will also dent investor confidence.

How do you look at the Union Budget taking into account the big push in capex and higher govt borrowings?

The Finance Minister had difficult choices to make given huge spending pressures and limited resources. In the event, she decided to borrow and spend more on capex. This will not only generate growth in the short-term but also build a base for stronger growth in the future. Since we are at last seeing some light at the end of the tunnel of the twin balance sheet problem, the hope and expectation is that public investment will ‘crowd in’ private investment and put the economy on a virtuous growth cycle. But ramping up execution, which has been our main weakness, will be key.

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But the Finance Minister has been criticised for not stimulating consumption.

Indeed yes. But Budget-making is all about prioritisation. It is true that millions of people are still in distress. But even if the FM puts money in their hands, it’s unlikely that they would have spent it given how uncertain they feel about their near- and medium-term future. What they want is not doles, but regular incomes through steady jobs.

Do you think the FM has done enough for jobs in the Budget?

The sizeable public investment, especially in construction, and the private investment it will stimulate, will of course create jobs. But the question is: is that enough given the enormity of the jobs crisis? Jobs have been lost because of growth slowdown, but also because of the shift in activity from the labour-intensive informal sector to capital intensive formal sector. We need not just growth, but job intensive growth.

Are you suggesting emphasis on manufacturing?

Certainly. The services sector can help, but I don’t believe it can create low-end jobs in the numbers we need. We import nearly $100-billion of manufactures from China. That itself suggests the opportunity for creating jobs at home by expanding manufacturing. This has to happen not by import restrictions but by improving our competitiveness. The PLI scheme has the potential to create jobs, directly of course, but also indirectly through forward and backward linkages with MSMEs which are job intensive.

Implementing structural and governance reforms to make PLI a happy experience for investors should receive much greater attention. Export production too is labour intensive and we need to roll back tariffs so as to make our exports competitive.

Returning to the size of government borrowing, the Finance Secretary said rating agencies are adopting double standards as between developed countries and emerging markets.

For sure, rating agencies have double standards. The classic example of this is that in the run-up to the Asian Crisis in the late 1990s, Australia and the east Asian economies had similar build-up of pressures. The markets allowed Australia to make a smooth adjustment and avert a crisis, but denied a similar accommodation to the Asian economies and landed them in a devastating crisis.

The reality is that emerging economies have to live with rating agencies, no matter that they are biased, simply because they are influential in shaping market perceptions. Rich countries get away with softer ratings even though their fiscal parameters are worse than ours because they issue debt in currencies that others crave. We know from experience that markets and rating agencies are less forgiving of excesses by emerging markets such as India.

Do you think our debt-GDP ratio is too high?

No matter the fiscal compulsions, we can’t afford to take our eye off the debt level. Higher borrowings and lower GDP have pushed up the debt-GDP ratio close to 90 per cent of GDP. As a result, interest payments have grown to become the single largest item of expenditure and eat up more than 40 per cent of revenues, leaving that much less for spending on growth enhancing sectors like education, health and infrastructure. The hope is that debt will pay for itself since the spending financed by debt will lead to higher growth. That is true in a mathematical sense but is not inevitable. That’s why much greater focus is needed not just on the quantum of public expenditure but also its quality.

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First published on: 14-02-2022 at 04:14:12 am

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