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‘We must be wary of regulation impeding financial innovation’

Prime Minister’s Economic Advisory Council (EAC) chairman & former RBI governor C Rangarajan was conferred the FE Lifetime Achievement Award by finance minister Pranab Mukherjee in Mumbai on Tuesday....


July 14, 2010 2:56:44 am

Prime Minister’s Economic Advisory Council (EAC) chairman & former RBI governor C Rangarajan was conferred the FE Lifetime Achievement Award by finance minister Pranab Mukherjee in Mumbai on Tuesday. In a recent interaction with The Express Group,Rangarajan,a towering figure in the area of India’s macroeconomic policy-making for the last three decades,spoke at length about many a policy imperative in the changed global situation after the global economic crisis. Excerpts:

In 2008-09,there was a massive outflow of FII funds that battered Indian equity markets. How can we strengthen domestic institutional investors who could act as a counterweight to exiting foreign funds in times of market volatility?

In 2008-09,the fund inflow was negative 14 million. But according to the data released by RBI on June 30,the portfolio inflow is something like $32 billion,which is almost equivalent to what we had in 2007-08. The 2008-09 scenario was a one-year phenomenon,that is all. Some impact on India of what is happening in the rest of the world is inevitable. We cannot insulate the entire economy from the impact of what is happening in the rest of the world. But considering the total inflow coming into the country,the outflow was very small. In one year it was reversed. So we should get accustomed to these things. But certainly,the countervailing force,as far as the Indian economy is concerned,is the Indian investor. But whether the Indian investors should also behave in the same way in the circumstances is something that the investors should decide. Whether LIC or some other institution would find Indian equity attractive to invest in the circumstance is something that they have to take a call on.

It is now believed that financial markets,when left to themselves,may be prone to excesses. Isn’t this more relevant about developed economies? What about financial markets in India where the debate is about reforms?

We really need to strike a balance between financial innovations,which are badly needed in our economy to stimulate growth,and regulation,which is needed for financial stability. In the so-called matured economies,the need for financial innovation is probably not there as much as in developing economies. In name of financial innovations,they have run amok in the industrially advanced countries. But in India,I think there is a danger of financial innovation being impeded in the name of regulation. Therefore,we need to strike an appropriate balance between regulation and innovation. There is a need for regulation in all segments of the financial markets,but at the same time,we should give adequate freedom to the financial markets and institutions to innovate.

Recently,the government formed a new committee under the finance minister that will look into inter-regulatory differences on hybrid products. How does the government intend to tackle regulatory issues other than those relating to hybrid products? Don’t you think that when the finance minister heads a panel of regulators that decides on these issues,regulators’ independence is affected?

There is a need for a co-ordinating mechanism because in the final analysis,financial markets are integrated. The need for discussion and analysis by different regulators coming together has become essential. The existing high level committee on capital markets (HLCC) is an informal committee. It could discuss and persuade regulators that disagree with other regulators. But there is no way of imposing its (HLCC’s) will because each regulator can do what it wants to do. That is why a more formal institution became necessary and the head of that organisation or committee can only be the finance minister because he is ultimately responsible for the entire financial system. In many ways,RBI enters that committee not so much as the central banker as much as the regulator. The central bank of the country plays a dual role. It designs the monetary policy,but at the same time,it is a regulator of banks. Therefore,a more formal organisation has become essential because the differences need to be reconciled. Perhaps,if a committee of the type that is now being envisaged had been set up earlier,the issue between Irda and Sebi could have been settled earlier. I think that the time has come to supplement the informal committee under the chairmanship of the RBI governor with some other organisation which has a more formal character.

What is your view on the Irda-Sebi dispute on regulating unit linked insurance plans (Ulips)?

Ulips have elements of both insurance and management of investment. The world over,Ulips are controlled by insurance regulators. There is an element of insurance—small or big is another matter. There is an element of insurance and there is an element of investment management. Some decision on that had to be taken and it could be either way—regulation of Ulips by Irda or by Sebi. All that one can say is that if there are more regulations needed with respect to the management of funds,it should be introduced. That is all. Therefore,a decision on either way would have made somebody or the other unhappy.

Do you think the management of govt debt should be separated from RBI and vested with the government?

RBI had proposed at one time that its debt management functions be taken away and given to the government. That the responsibility for debt management rests with the Centre was a reform agenda. By historical circumstances,RBI was managing it. In fact,increasingly,the link between the government and RBI with respect to public debt management is taking a new shape. There was a time when RBI was subscribing to the issues of the government. Now,the FRBM Act came and said that after a particular year,the direct subscription by RBI to the issues of the government of India should cease. So changes are happening. I think that ideally,debt management can be done by the government itself. There is no reason why RBI should undertake that function. But if it continues with RBI due to administrative convenience or other reasons,then it is another matter. But in principle,I do not see any problem in the management of public debt being with the Centre.

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