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India – Q&A Duvvuri Subbarao;RBI Governor

Sugata Ghosh & Mayur Shetty

Duvvuri Subbarao has completed a full monetary policy cycle. His first policy was in the aftermath of the global financial crisis in October Duvvuri Subbarao, RBI Governor
2008. A year later, when the focus has shifted to ‘recovery management,’ the governor has already picked up the art of managing to surprise the market by announcing a hike in statutory liquidity ratio requirement for banks. He has made it clear that RBI has never used and will not use the exchange rate as an instrument to fight inflation. In a candid interview, Mr Subbarao speaks about the thinking that went behind the policy and how he feels when the government and RBI speak in different voices. Excerpts:

A year ago RBI had bailed out builders. Now, those loans are coming up for rollover and you have hiked loan provisioning. Are you concerned there’s a bubble? Is there a need for property prices to correct?

I wouldn’t say there’s a bubble, but I would certainly say that there is a need for correction of prices. We have discussed with banks and banks have told us that while there has been an adjustment of prices in the housing sector, there has been no correction in the commercial sector where lot of capacity is idle. That is one of the things that has prompted us to raise the provisioning cover for commercial real estate. Banks already distinguish between loans for housing projects and loans for commercial real estate. They have systems to ensure that their money is used on the specified projects

You have laid down a 70% loan provisioning coverage for all bad loans. This has not gone down well among bankers or in the market. Isn’t it a little high?

This provisioning requirement is for non-performing assets and not for loans that are good. Second, there is a theory verified by practical experience that banks need to build buffers in good times … counter-cyclical provisions. Even though the economy is recovering, banks have done very well and their profitability is good. This is the time to provide for what could possibly be bad loans.

Banks are putting more and more money in mutual funds. It’s just money revolving within the system…

Yes, there has been a manifold increase in the amount kept by banks in debt mutual funds in the past six months. That is by itself not objectionable, but there are incentives in the system which drive that because income from MFs is exempt from tax. We only give 3.25% through the reverse repo window and MFs are giving more. And there is also some concern regarding regulatory arbitrage, in the sense what MFs are doing with the money. Some of the money is coming back to us, some going as credit. We want banks to lend directly. There is no concern over MFs, but there is concern over the circularity in money movement . We have requested banks to take the issue to their board and have some governance norms for their investment in debt MFs.

The compulsions of fiscal deficit and the government’s increasing dependence on banks for funds could make PSU banks end up like public sector oil companies.

I don’t think that fear is there. Our borrowing is all in the market. RBI does not finance the borrowing through the primary market. Therefore, I think interest rates are market-driven and there is certain transparency, and much before we hit a crisis level, the government and the system will make a correction. So, the possibility that we will hit a crisis without knowing about it is unnecessary.

SLR hike doesn’t really serve any purpose and is not a substitute to HTM hike. When will you again reduce SLR?

Well, I was earlier saying that we will bring it down in the long-term, and in a lighter vein, I said the long-term is in a Keynesian sense. I am unable to put a timeframe on when we will start reducing SLR as a reform measure. What we have done is to revert to the pre-crisis level rather than a reform measure. It does not serve a purpose now when the government borrowing requirement is so high and banks have no demand for credit. But when credit picks up, SLR will become a binding constraint.

You spoke about open market operations to reduce liquidity. But since you don’t have bonds, will market stabilisation bonds make a comeback?

I cannot say whether MSS will make a comeback. But if capital flows are far in excess, there will be the traditional question of managing the impossible trinity. Either we have to issue bonds under the market stabilisation scheme, or we have to let the exchange rate appreciate or we have to manage liquidity. We could also do a combination of all three. Our approach has been to use middle solutions and not corner solutions. That, I believe, will be the approach.

When you move to the next phase of exit… what are the key data points you will look at?

No mathematical formula, no exhaustive list of indicators, but we will be listening to people…We will look at inflation, particularly non-food inflation, growth indicators like IIP, export performance, and imports, especially non-oil imports.

Market continues to suffer from multiple voices. Even as you spoke about challenges of unwinding, different government functionaries said interest rates should not go up. Does this bother you?

It bothers me to the extent of managing market perception. There is a limit to which we can manage market perception. In a democracy there are differences of opinion and I believe they add value. So, in the government, they have a point of view, in the central bank we have a point of view, various analysts and media people have their points of view and I believe these differences have served us well. I am not going to tell the government to take a point of view and the government is not telling me to take a point of view. There are differences of view and the market has to live with that… I want to say that the media also has a responsibility… I don’t speak to the public, I speak to you and you communicate.

RBI seems to have abandoned the central banking jargon…the language is more direct. Is it a conscious effort?

I come from the outside and I am learning. Wherever you go to a job you try to improve and there are lot of intelligent people in RBI who are also change agents, and together, we have taken a view to pay greater attention to communication, especially in difficult times, and I hope that has been valued.


October 28, 2009 - Posted by | Uncategorized |

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