RBI Monetary Policy: Patel’s Smile Hides A Tough Message For New Delhi


Governor Urjit Patel walked into the 15th floor conference room of the Reserve Bank of India’s central office on Wednesday with a smile. He walked out with a smile as well. But in the 20-odd minutes in between, Patel sent some tough messages to New Delhi.

The first of these was on the government’s chosen fiscal path.

The annual Union Budget, announced just a week before the final monetary policy review of the fiscal year, showed that the government had missed its fiscal deficit target of 3.2 percent of GDP in 2017-18. One can cut the government some slack there because this was the year in which the Goods and Services Tax was rolled out. But the government also targeted a higher-than-expected fiscal deficit of 3.3 percent for 2018-19 and delayed the eventual goal of 3 percent fiscal target to 2020-21.

Patel’s verdict?

We have news of fiscal slippage at three levels, said Patel. “A fiscal slippage this year, a fiscal slippage next year compared to what the market expected and what the target was, and then a postponement of the medium-term fiscal objective,” said Patel while responding to a question on why domestic bond yields have risen so far. To be sure, Patel said that other factors such as higher global yields, rising oil prices and inflation have also played a significant role in higher bond yields.

The statement of the Monetary Policy Committee released before the press conference had also taken a hard line on the government’s fiscal policy. The fiscal slippage could “impinge on the inflation outlook,” said the statement. “Apart from the direct impact on inflation, fiscal slippage has broader macro-financial implications, notably on economy-wide costs of borrowing which have already started to rise. This may feed into inflation,” the statement had added.

When asked whether the government’s inability to meet the 3 percent fiscal target hurts the MPC’s ability to meet its inflation target of 4 (+/-2) percent, Patel said it will make the path more “challenging”. He, however, indicated that the 3 percent fiscal deficit target, which was set as a pre-condition for an inflation targeting framework in 2014, may not be sacrosanct anymore given the change in the inflation environment.

Patel tough talk was backed up by Deputy Governor Viral Acharya, who, for the second time, sent a message to the government and the markets that it would not step in to calm down the mood in the bond markets. Just days before, news agencies reported, citing unnamed government officials, that the RBI may step in with open market operations to bring down yields.

Not happening, Acharya seemed to suggest.

“Except in rare, extraordinary, economy wide circumstances, the goal of RBI’s liquidity operations is not to manage directly the prices of any particular long term asset market.”

Some of this was expected messaging from the RBI. But, wait, there was more.

In a rare comment from an RBI governor on tax policy, Patel questioned whether too many taxes were being levied on capital. Listing as many as five taxes, Patel said that these taxes have an impact on investment and savings decisions. Among the taxes he listed out was the recently introduced long term capital gains tax on equity market investments. It’s worth mentioning here that in the last two policies, the MPC has cited the buoyancy in capital raising via the equity markets as an encouraging and early sign of a pick up in investment sentiment. Was Patel suggesting to the government that it look at these taxes in concert with the broader goal to increase the investment to GDP ratio? Perhaps.

And finally, there was Patel’s last word on the dividend to the government.

The government has budgeted Rs 44,000 crore in dividend from the RBI, banks and financial institutions in FY18. The RBI transferred Rs 30,659 crore at the end of July. A day after the budget, the secretary of the Department of Economic Affairs told BloombergQuint that the government is still in talks with the RBI for a higher dividend.

Patel’s response to this?

We always share the dividend with the government and we have already done that for this year. That’s something that is done in a mechanical way and it will continue to do so going forward. Our fiscal year, as you know, is from July to June, so we are halfway through our current fiscal year.

The government’s response to all this tough talk coming from Mint Street. Silence. Contrary to trend, no government official commented on the MPC’s decision or its statement on Wednesday.

Was the government miffed or was it respecting the strong signal of central bank independence sent out by Governor Patel? Perhaps both.