Viral Acharya’s Appointment To The Reserve Bank Of India Strays From The Norm
The quorum at the Reserve Bank of India was completed on Wednesday with the government announcing the appointment of the fourth deputy governor.
Viral Acharya, 42, professor in the department of finance at New York University’s Stern School of Business, will join the central bank for a period of three years, said the government in a notification. He joins governor Urjit Patel and deputy governors R Gandhi, SS Mundra and NS Vishwanathan to complete the top team at the central bank.
Acharya’s appointment conforms to the tradition of one deputy governor being appointed from outside the RBI, but departs from the norm of appointing a traditional economist who looks after the monetary policy functions of the central bank.
While the distribution of portfolios will be decided by the RBI governor after Acharya joins, his experience seems better suited for the banking supervision and regulation departments rather than the monetary policy department. Michael Patra, currently executive director at the RBI, who many thought was a shoo-in for the position, would have fit the mould of the person in-charge of monetary policy since he already looks at that division.
Instead, the government has chosen Acharya whose recent research work has been focused more on banking and the credit markets. The appointment comes at a time when India continues to grapple with the problem of high corporate debt and bad loans at banks.
At Stern, Acharya teaches courses in credit risk and sovereign and financial credit risk. He has a PhD in finance from the Stern School and his website lists ‘Essays In Banking and Financial Institutions’ as his dissertation.
Research and working papers listed on his personal page include a paper on the Indian banking sector, one on rising external debt among emerging market economies, and another on the financial stability mandate for central banks. Each of those issues are relevant to India even in the current context.
“Significant Capital” Needed For Indian Banks
In June 2015, Acharya co-authored a paper with Krishnamurthy Subramanian of the Indian School of Business looking at ‘State Intervention In Banking’.
The paper noted that unless Indian public sector banks raise “significant capital in the next five years”, their balance sheets would have to “shrink alarmingly” to stay compliant with Basel-III standards.
This scenario is playing out to a T.
In August 2015, the government said it would infuse Rs 70,000 crore into public sector banks over a four year period. This, however, was seen as inadequate with credit rating agencies pegging the need for capital at much higher levels. In a July report, rating agency Fitch pegged the need for capital at $90 billion (over Rs 6 lakh crore at the current exchange rate) by fiscal year 2019.
In the absence of this capital, most public sector banks have gone slow in lending over the last two years.
Acharya and Subramanian went on to say that public sector banks pose a significantly greater systemic risk when compared to private sector banks.
Their point is supported by current data that shows gross bad loans at Indian banks have risen over the last few years. Total stressed assets across Indian banks rose to 11.5 percent at the end of March 2016. Stressed assets on the books of state-owned banks were higher at 14.5 percent.
Among the solutions that have been discussed to solve this bad loan issue is the creation of a ‘bad bank’. The option, however, was not favored by former RBI governor Raghuram Rajan.
In an interview to BloombergQuint in October, Acharya supported the concept.
I am absolutely proposing either explicitly or implicitly that we separate the unhealthy parts of the troubled banks from the healthy parts. Either as a bad bank which has those bad assets left in the original balance sheet once you have separated the good parts, or you could run it to full maturity, so we are not looking for sellers or buyers. Or you could actually pool all the bad parts together and make an asset restructuring company that looks for buyers for these assets.Viral Acharya In An Interview To BloombergQuint (October 2016)
Use ‘Market Based Metrics’ To Assess Foreign Borrowing Risk
In the September 2015 paper, Acharya along with his co-authors specifically examined the increase in external commercial borrowings by Indian corporates. It noted that by the end of 2014, 37 percent of India’s external debt was made up of ECBs up from just 19.7 percent in 2005. As of March 2016, that proportion was at 37.3 percent.
Noting that firms borrowing abroad are more exposed to the risk of a depreciating rupee and changes in international financing conditions, the paper recommended that policymakers and regulators should focus on market based metrics to identify firms that could face trouble.
Rather than focusing on balance sheet measures of foreign exposure, we make the case for an increased reliance on market-based metrics to identify firms that could potentially encounter trouble in the event of a foreign exchange shock. Of course, market-based measures would be unavailable for non-listed firms but, even then, the broader takeaway is that hedging activity, either natural or through derivatives, needs to be taken into account before judging the susceptibility of an external commercial borrower to foreign exchange rate movements.Paper on ‘Corporate Debt In Emerging Economies’ (September 2015)
The authors went on to argue that risks to the banking sector from foreign currency debt should be taken into account. It also suggested that the regulator consider increasing the risk weight for bank assets associated with high foreign exchange risk.
Acharya’s recommendations, on this count, are in line with the thinking of the RBI which has pushed firms to hedge their foreign currency exposure. The regulator has also asked banks to set aside additional provisions to account for risk emerging from unhedged forex exposures.
Financial Stability Mandate For Central Banks
In a paper dated April 2015, Acharya argued that central banks should be allowed to manage financial crises without being subject to the “short term whims of politics.”
The paper, written in the context of the U.S. economy, argued that U.S. Congress should let the U.S. Federal Reserve regulate growth and leverage in shadow banks and other institutions normally beyond the Fed’s jurisdiction. This should be done to avoid “regulatory arbitrarge”, Acharya wrote. He also argued that the U.S. Congress should give the Fed a financial stability mandate.
Acharya’s thinking is in line with how the RBI has functioned over the decades. As a full-service central bank, the RBI’s mandate extends from the macroeconomy to the banking sector and financial markets including the currency and the bond markets. Except starting 2015, its prime mandate has been reoriented towards inflation-targeting.
Note: Soon after this column was published the RBI put out a press release saying that Acharya will be handling the monetary policy and research cluster at the central bank.