Friday, Jan 27, 2023

The Treasury Bills lesson: It helps to be non-adversarial

A return to the non-adversarial relationship that prevailed then could help script another landmark agreement this time too.

Treasury Bills, economic reforms, Rajiv Gandhi government,  RBI, Reserve Bank of India, Reserve Bank of India, Finance Ministry, P V Narasimha Rao, A return to the non-adversarial relationship that prevailed then could help script another landmark agreement this time too.

In the 80s, as India’s fiscal situation deteriorated around the time when Rajiv Gandhi’s government was in power, the Reserve Bank of India sounded out the Finance Ministry on the need to address excessive borrowings and spending by the government. The concern was reflected not just in letters from the central bank to the Ministry, but also in public speeches made by the then RBI Governor and his deputy.

After the failure of the Rajiv Gandhi, V P Singh and Chandra Shekhar regimes to address the problem led to the blowing-up of the 1991 balance of payments crisis, the minority government led by Prime Minister P V Narasimha Rao recognised that the solution, in the medium term, would have to centre around fiscal prudence.


As governments of the 80s — and those who had ruled earlier — spent without the backing of adequate revenues, the RBI stepped in to finance the deficit. This was done by issuing what came to be known as ad hoc Treasury Bills or T Bills, which were for relatively short tenures — from 91 days to 364 days — and below market rates. This was done also to ensure that that the government had a minimum cash balance of Rs 50 crore on Fridays and Rs 4 crore on other days as part of an agreement dating back to the 1950s.

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As economic and financial sector reforms started rolling after mid-1991, then Finance Minister Manmohan Singh, who was RBI Governor between 1982 and 1985, and Chakravarti Rangarajan, who became Governor in 1992 after having pursued this issue in the late 80s, decided to work on a durable solution.

Rangarajan felt that deficit financing and debt pile-up was hampering the central bank’s interest rate management policy and inflation control. Another concern was forcing banks to subscribe to these bonds and securities even when they had stocked up on such bonds way above the mandatory limit.

Rangarajan and his deputy governor, S S Tarapore, then drew up the contours of a plan to first restrict the issue of such treasury bills before phasing them out altogether. Rangarajan, Tarapore, Montek Singh Ahluwalia (who was Finance Secretary) and Shankar Acharya (who came in as Chief Economic Advisor) then got together to work out a framework. Several meetings took place in the Ministry of Finance, at which practitioners of both monetary and fiscal policies fed off each other. It was not an ‘us-versus-them’ conversation — rather, from the way it went, it turned out to be largely a meshing of the views of the RBI and Ministry of Finance, according to some of the participants.

The convergence of views and mutual respect was helped by the fact that the Finance Minister was a former central banker who did not have to primed for this. And that was what led to the first agreement on September 9 between the RBI and the government to restrict the issuance of ad hoc T Bills to Rs 6,000 crore in 1994-95, and to phase them out by 1997 — one of the most significant changes in the country’s monetary and economic history, that ultimately paved the way for a law on fiscal prudence and opened the doors to provide greater autonomy to the RBI in monetary policy management.


As the three-year deadline for doing away with this form of borrowings drew close, the next Finance Minister, P Chidambaram, went against a limited view within the government to not fully phase out T Bills — and went ahead with the final landmark agreement to discontinue the system of taking recourse to ad hoc T Bills to finance budgetary deficits. In its place, a new system of ways and means advance to meet temporary mismatches was introduced.

This backstory contrasts with events that have unfolded over the last few months, marked by conflicting views on several issues. A week before this year’s Budget, the RBI and government signed off on a monetary policy framework binding the central bank to an inflation target — but there isn’t closure yet on a monetary policy committee, among other things. A return to the non-adversarial relationship that prevailed then could help script another landmark agreement this time too.

First published on: 13-05-2015 at 00:00 IST
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