Eighteen months into Budget 2007-08, a promise by Finance Minister P Chidambaram to vest the Reserve Bank of India’s powers to manage government debt — estimated at Rs 18.44 lakh crore or almost 40 per cent of the GDP, as on March 31, 2008 — into a separate entity, is finally taking shape.
Officials say the new entity is likely to be a public sector undertaking (PSU) under the Finance Ministry but will have both the Union Government and states as stakeholders. Besides managing the Centre’s internal debt, it will also handle the government’s new debt issuances. In 2008-09, the Centre plans to borrow a sizeable Rs 96,000 crore from the market.
The move to set up a debt-management entity will be the first major step in central bank reforms in India. In most developed economies, including the US, UK, Australia and Canada, it is an organisation with the sole objective of minimising the cost of borrowing for the government and is distinct from the central bank. The central bank in such countries restricts itself to the conduct of monetary policy with a dominant focus on setting short-term rates to manage inflation.
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Officials said it will end the conflict of interest the RBI currently faces between setting the short-term rate through its monetary policy and selling government bonds at higher prices resulting in an inflationary bias. Another conflict arises because of the banking sector regulator’s mantle the RBI dons. To sell bonds, it asks banks to buy these, which may not be in the best interest of the banks.
In India, traditionally, the RBI has been performing multiple roles — it’s the regulator for banks, a banker to the government and an authority to conduct monetary policy, ensure financial stability and also promote economic growth. The creation of a new organisation to manage the government’s debt will spare the RBI of at least one of its several tasks.
Officials said the new PSU would not have a free run or be bereft of competition. States may still have a choice to approach the RBI to manage their debt or raise funds from the market on their behalf. “The new PSU will have to sell itself to states and public sector enterprises. Its expertise should show in its ability to raise low-cost funds,” another official said.
In making the Budget announcement, the Finance Minister had said the government would set up a “middle office” by the end of the year as a first step towards establishing a full-fledged entity focusing exclusively on debt management. The “middle office,” as the name suggests, functions just like a research wing in an investment bank. The front office handles applications and receipts of money and the back office manages accounting and book-keeping.
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The “middle office” was supposed to recommend to the government the necessary legislative and procedural changes required to carve out a debt management office outside the RBI. Since the RBI is handling this job, it was asked to depute some officials for the “middle office.” The central bank has, after more than 16 months, sent a communication sparing a few of its officials for the purpose.
Though to meet the Budget promise of last fiscal, the finance ministry did set up a “middle office” in North Block, there was no movement forward. It then set up a working group under its Principal Economic Advisor to suggest a structure for the new entity and its mandate.
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