The Ornithology of Macroeconomic Policy: India's New Monetary Policy Framework
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main heading sub heading table heading NMIMS JOURNAL OF ECONOMICS AND PUBLIC POLICY Volume I | Issue 1 • OCTOBER - NOVEMBER 2016 The ornithology of macroeconomic policy: India's new monetary policy framework SASHI SIVRAMKRISHNA No one is free, even the birds are chained to the sky. mall farmers. Majority of the – Bob Dylan farmers (82%) borrow less than Rs 5 lakhs, and 18% borrow inflation as an economist but was by the government.5 However, once between Rs 5 – 10 lakhs on a The hawks have landed able to utilize his overwhelming the dust settled, a more balanced per annum basis. Most farmers Hawks, doves and owls – some even personal aura to win support of the picture emerged6; in fact, Rajan (65.79%) ar speak of seagulls – but what have popular media and, at the same time, himself considered the formation of birds got to do with exert pressure on the government to the MPC as one of his unfinished macroeconomics? At first, such pay heed to his strong views. tasks at the RBI.7 But why would a ornithological labels seem an apt way Institutionally speaking, success came hawk want to propose and accept any of describing personalities of close to the very end of his tenure4, in dilution in autonomy over the setting individuals. Indeed, to an extent, August this year, when the of interest rates? The answer is not they are. But there is something more government notified the Lok Sabha of obvious. The inflation target along significant in these ornithological tags the retail inflation target of 4% (+2%) with an MPC that decides on interest that may often be overlooked; a as the anchor for monetary policy rates makes monetary rule-based discerning categorization of the until 2021. Being able to implement rather than discretionary, which, as diverse schools of macroeconomic parts of the Urjit Patel committee we will see, ultimately constrains thought that individuals in key report – that made inflation targeting fiscal policy. An inflation hawk is positions subscribe to, with far the primary objective of monetary essentially also a (fiscal) deficit hawk reaching consequences. policy – was no small victory for and is aware that binding the central Rajan. The hawk may have lost the bank to rules will shift the burden of In the Indian context, Governors of battle with Subramanian Swamy, but inflation control to the Ministry of the Reserve Bank of India (RBI) have had won the monetary policy war. Finance and the Union budget. In his often been subject to ornithological last public speech as the Governor of labelling for their stand on inflation. A new framework for monetary policy the RBI, Rajan made a very candid Going back to the not-so-distant past, is now clearly emerging in India; an remark that went unnoticed in most Y. V. Reddy, in spite of having raised inflation target approved by the newspaper reports; interest rates sharply during the government along with a Monetary boom prior to the Great Recession of Policy Committee (MPC) that will set 2008, was never unequivocally interest rates. Based on the The inflation objectives recently set labelled an “inflation hawk”; in fact, recommendations of the Urjit Patel for the RBI by the government are to describe him as one was Table & Image source Committee, the MPC will consist of an example of what is needed. considered “unfair”1. His successor D. six persons, three from the Reserve Critics can lambast the RBI if it fails Subbarao was more definitely Bank including the Governor and continuously to meet the “hawkish” although not always three appointees of the government, objectives, but if they want it to categorically considered a “hawk” with a decisive vote granted to the lower interest rates even when the since there were times when it Governor in case of a tie. But why RBI barely meets its objectives, seemed he had not raised rates would a central bank want to limit its they should instead petition the sufficiently to tame inflation2 and powers in favour of an MPC? When government to change the other times when it seemed he was the announcement first appeared, objectives … For example, with an willing to compromise, albeit just a many economic commentators inflation focused framework, the little3. It was, however, Raghuram reacted adversely, especially on the RBI’s ability to be accommodative Rajan, who earned the title of a true strength and composition of the depends on fiscal prudence from “inflation hawk”. Not only was he 8 MPC, arguing that the RBI’s the centre and states. able to propound his views on autonomy was being compromised 45 main heading sub heading table heading NMIMS JOURNAL OF ECONOMICS AND PUBLIC POLICY NMIMS JOURNAL OF ECONOMICS AND PUBLIC POLICY Volume I | Issue 1 • OCTOBER - NOVEMBER 2016 Volume I | Issue 1 • OCTOBER - NOVEMBER 2016 In spite of these strategic successes in Even in recent times, Rajan clearly called “interest rate doves” because dreaded bogey in the free market competition and innovation. Rajan state has two key macroeconomic institutionalizing a new monetary articulated the views of an inflation they take a firm stand on interest capitalist narrative, distorting the embodied this inflation-centric view goals - high output (growth) and a policy framework, or perhaps and deficit hawk; rates rather than on inflation per se. functioning of the price mechanism in when he told the media and analysts, low and stable inflation.23 Fiscal because of them, Rajan’s term at the A popular definition of (inflation) many ways including uncertainty over “Our [RBI’s] job is to give people policy consisting of government helm of the RBI was not renewed. Ahead of the Budget, RBI doves is provided by Investopedia: exchange rates that adversely affects confidence in the value of the rupee, expenditures and taxes, targets But even in his exit, he scored a Governor Raghuram Rajan today international capital flows, difficulty in prospects of inflation and having output, while monetary policy victory over his opponents when the warned against generating Dove refers to an economic policy for firms to distinguish changes in established that confidence, create through the instrument of interest government appointed Urjit Patel as economic growth through advisor who promotes monetary relative prices from changes in the longer-term framework to take good rate,24 targets inflation. Figure 1 the new Governor of the RBI. With additional debt [fiscal deficits] policies that involve low interest general price level so that use of decisions …”20 Another remark made below presents a schematic this decision, the government had saying that any deviation from the rates, based on the belief that low lower priced inputs may not take by him was even more definitive; representation of the assignment of indicated its desire to maintain fiscal consolidation path will hurt interest rates increase employment.17 place, rising interest rates as lenders “We must take advantage of the targets to goals. What must also be mall farmers. Majority of the continuity in Rajan’s policy initiatives. the stability of the economy.12 incur losses on capital lent and need circumstances [including low global specifically highlighted here is that farmers (82%) borrow less than Unlike many of his predecessors, While interest rate doves (we for risk premium, aggravating commodity prices] to bring inflation while there is a specific inflation Rs 5 lakhs, and 18% borrow Patel leaves little room for doubt; he RBI Governor Raghuram Rajan continue calling them inflation doves) distortionary effects of the tax down once and for all21and it is at a target (say, 4% +2%), no such specific between Rs 5 – 10 lakhs on a is both an inflation9 as well as deficit had said that the Budget would be believe that increased aggregate system, leading people to hold more mild cost to output.”22 target exists for output, growth or per annum basis. Most farmers hawk. This is evident from the fact a key determinant of monetary demand from lower interest rates will cash, and eroding purchasing power unemployment. This is essentially 13 (65.79%) ar that he is not only the architect of policy. be matched by increased aggregate of fixed income earners especially in A transposition of what gives the government a “degree inflation targeting in India but also supply so that inflation need not the informal sector (European Central of freedom”; the inflation target can the one who paved the way for the Unlike the natural world, hawks in accelerate18, there remains some gaps Bank, nd). It is considered the “duty” macroeconomic goals be met even without recourse to high Fiscal Responsibility and Budget economics can be attacked by doves; in their arguments. What if, for of the central bank to intervene and interest rates by instead curbing the Management (FRBM) Act of 2003 the latter includes those who give argument sake, a cut in interest rate confine inflation to low and stable and instruments fiscal deficit and dampening with a 3% of GDP deficit target.10 primacy to growth and augments demand but supply (predictable) levels using interest rate Inflation hawks have slowly and aggregate demand. At the same unemployment – through lower (especially food products) lags and as the instrument. With inflation and subtly changed macroeconomic time, low interest rates would When doves dare interest rates – over inflation. In the economy experiences inflation expectations suppressed, an policy discourse through a enhance growth in real output by Let us change course from individuals recent months, we have watched this accelerating inflation? Can the efficient market system would propel transposition of goals and kick-starting or augmenting private to the underlying macroeconomics of spectacle unfold in India. Governor of the RBI then be held an economy on to a path of long- instruments.