ON FRIDAY, the Reserve Bank of New Zealand announced that effective April 1, the Secretary of the Treasury (the equivalent of the Finance Ministry in India), Gabriel Makhlou, would formally take up the role of the Treasury Observer on the Reserve Bank of New Zealand’s Monetary Policy Committee. The move recalls India’s moves on reforms in the past.
What was recommended
In the early days of the NDA government that came to power in 2014, discussions were under way on new policies to be unveiled. In the Finance Ministry, this was centred on some of the recommendations of the Financial Sector Legislative Reforms Commission (FSLRC), which included the formation of an independent committee to set interest rates rather than the age-old practice of the Reserve Bank of India (RBI) Governor deciding on this after consultation with colleagues.
One of the ideas discussed was about the composition of the Monetary Policy Committee (MPC): whether to have a Finance Ministry representative to oversee better coordination between the government and the RBI. A nominee of the Ministry – the Secretary, Department of Economic Affairs, who is the interface between the two – could be on the MPC, it was suggested, but without voting powers so that the independence of the interest rate setting committee would not be compromised. That idea never took off, while the decision on the final composition, in terms of the number of members and casting vote, was taken at the top, without involving many officers of the Ministry of Finance.
New Zealand & India
The move in New Zealand follows changes to the law governing the central bank there. The Treasury Observer will not have voting rights. That’s not the only change in a country that is known to be a pioneer in inflation targeting. The New Zealand central bank will now have a new charter and remit and a code of conduct for members of its Monetary Policy Committee, which will kick in from April. In India, an MPC was operational in 2016 after Urjit Patel took over as Governor in September that year; he had chaired the committee which made out a case for such a framework. It will be interesting to note that the mandate of the interest rate setting committee in New Zealand is not just price stability, but also about ensuring maximum sustainable employment. In other words, India entered this realm late when others were retreating or reviewing such a framework.
In India, as final talks were under way on a monetary policy framework, there were senior officials in the government who flagged their concerns on such a formal legislative framework. They said it would lead to loss of flexibility for both the central bank and the government. That is a worry now, reflected also in the controversial conflict between the RBI and the government, leading to the Finance Ministry invoking a provision of the RBI Act to get the central bank going on a few things. One of the provocations, according to government officials then, was the breakdown in ties between Governor Patel and the Finance Ministry. Much before that, there was also a controversy featuring then Chief Economic Adviser Arvind Subramanian, when the ministry sought a meeting with the MPC a few days before a scheduled meeting, to make a case for an interest rate cut. This was rejected by the RBI then.
The ministry does not have a representative on the MPC, unlike in a few countries including the central bank in New Zealand and Bank of Japan, where the policy board deciding on interest rates has a representative who is either the Finance Minister or his delegate. This representative does not have voting rights but can express opinions and submit proposals and request the policy board to postpone a vote on proposals until the next monetary policy meeting.
Earlier, the RBI had a Technical Advisory Committee during the Y V Reddy era. It had external experts such as economists with the Governor taking the final call later. This committee had two directors from the RBI board, the rationale being that all operations were under the umbrella of the board and that it was important that there was no contradiction between the board and a committee on interest rate setting with no representation from the board.
The way forward
A former central banker reckons that a sensible course could be to invite or make the Secretary, Economic Affairs, a special invitee after the approval of the MPC. That would not be barred by law, he says, and it would help in the Finance Ministry put across its views to the committee. Raghuram Rajan, during whose period as Governor the RBI and the government entered into an agreement on a monetary policy framework, had said that a monetary policy committee would bring more minds to bear on policy setting, preserve continuity in case a member had to quit or retire, and be less subject to political pressure – which made him back the proposal. India’s MPC is relatively new, but globally central banks now have the challenge of low inflation even as growth soars like in the US. A new government in India may also take a relook at the policy framework with the winds of changes blowing globally.