The wider import of Viral Acharya's speech

The sudden, sharp deterioration in the relations between the Reserve Bank of India (RBI) and the Ministry of Finance (MoF) has been the talk of the financial world for the past three weeks ever since RBI Deputy Governor Viral Acharya’s October 26 speech on the independence of the central bank. His talk concluded with an ominous warning: “Governments that do not respect central bank independence will sooner or later incur the wrath of financial markets, ignite economic fire, and come to rue the day they undermined an important regulatory institution...” 

Politicians in power and those close to them think of themselves as omnipotent and so Mr Acharya’s comment immediately invited angry responses from the finance minister, followed by cheap shots from others around him. What was missed in the din was that Mr Acharya’s speech has a much wider ramification and potentially applies to all institutions, not just the RBI. Maybe the netas and babus did not read the full speech or his points were far too finely made — or uncomfortable. Indeed, the very first point in Mr Acharya’s 6,020-word speech goes to the heart of what kind of governance creates prosperity. He refers to the seminal work of Daron Acemoglu and James Robinson (Why Nations Fail), who had concluded that it is the quality of institutions that separates the economic success or failure of nations. 

The core of governance 

Mr Acharya pointed out “[i]nclusive economic and political institutions involve plurality in decision-making which help guarantee the rule of law and foster talent and creativity; in the presence of such institutions, economics and politics do not become hostage to a set of incumbents likely to be hurt by change. In contrast, extractive institutions limit access to a country’s economic and financial resources to the ruling elites, hinder change and innovation, and over time, lead to stagnation and atrophy of the country’s potential”.

In India you can see an extractive state (I prefer to call it extortive) everywhere — the revenue department, the police, judiciary and, most importantly, the pervasive control over businesses, banks, education and even essential services like transportation, large parts of infrastructure and health care, either by the state or by crony capitalists, supported by the state. It is crony capitalists who have no problems accessing credit from banks and credit markets. It is the rich who have ready access to the justice system. It is an extortive state, which will not reduce costs, tariffs and taxes even though their impact on the poor is the highest.

Changes to this extractive structure have come about at a glacial pace over the last 70 years, each change coming as a response to some crisis and/or pressure from multilateral agencies or private institutions. But the inherent structure has not changed. Netas, babus and crony capitalists have become more and more entrenched in the system even as corruption has got bigger and bigger. Even an erudite prime minister like Manmohan Singh acknowledged the hopelessness of the situation by admitting that centralised corruption under his watch was an unavoidable outcome of “coalition dharma”. 

The bulwark against such extractive forces is institutions with a clear mandate to follow the rule of law and run by people with domain knowledge — the technocrats. This sets up an inherent conflict. While netas always go for expediency, short-cuts and populism, with an eye on the elections (one or two are always around the corner), the technocrats must take the long view, weighing the long-term consequences of policies. This is a far more serious and deeper issue than discussing superficial questions like whether the RBI should keep interest rates low. 

It is not for Mr Acharya to comment whether other institutions are led by domain experts but, since Acemoglu and Robinson found that strong institutions are the central force behind prosperity, where does India figure? Scores of positions in many critical institutions — from heads of public sector banks to citizen-facing positions like insurance ombudsmen to information commissioners to members of the Securities Appellate Tribunal — are vacant. Posts that provide checks and balances, such as worker and officer directors in nationalised banks, are also empty.

Then comes the issue of competence and about selecting people who will strengthen the institution. The ugly and very public spat between the top two officials of the Central Bureau of Investigation is egregious but symptomatic. From the secretaries in the Ministry of Finance, who know very little of the domain they rule, to generalists from the Indian Administrative Service (IAS) leading specialised institutions in finance, insurance, health care, it is clear that we have little respect for technocrats. Indeed, our leaders do not see the need to have domain experts unless there is a crisis. We have a conscientious doctor among central ministers but he is not running the health ministry. A career foreign-service official is in charge of urban development! The education ministry was given to someone who was not a graduate and had little understanding of academic values and systems but ruffled enough of academics. The real issue is not the RBI vs MoF; it is about creating and nurturing institutions and ensuring they are led by people with knowledge and wisdom. Mr Acharya’s comments once again expose our serious shortcomings in this regard. 

The writer is the editor of www.moneylife.in

Twitter: @Moneylifers