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In an interview with Karan Thapar on CNN-IBN’s Devil’s Advocate show, Reserve Bank of India Governor Raghuram Rajan discusses inflation targeting, growth, interest rates and subsidies.
Karan Thapar: Hello and welcome to Devil’s Advocate and a special interview with the governor of the Reserve Bank of India (RBI) Raghuram Rajan.
Let us start with the state of the economy as it is today before I ask you about how the bank sees its future and let us begin with economic growth. For the first six months of this financial year it has been just 4.6 per cent and on Tuesday you readily accepted that it will be under 5 per cent for the year as a whole. How worried are you by the declining growth the country is experiencing?
Raghuram Rajan: It is stabilising at a low level. I don’t think we will see significant further declines at this point. Question is when is it going to come up. The hope is that with rest of the world starting to pick up more strongly, with our agriculture doing well and with our big projects starting to slowly come back to life that we will get stronger growth.
You say it is stabilising at a low level but where do you think it is going to actually stop because independent institutions like Fitch, Crisil, World Bank, IMF put it for a year as a whole between 4.2 and 4.8 per cent.
The precise number is …. (Interrupted)
Above 4.5 or around 4.5 per cent?
As we said in the report slightly below 5 per cent but for the year as a whole we will be between 4.5 and 5 per cent but where precisely depends on so many imponderables.
Within that overall figure how worried are you about industry and I suppose I mean manufacturing in particular because the index of industrial production (IIP) for the last eight months has been in negative territory and in November it sharply fell by 2.1 per cent. Does industry face a particular problem?
Industry is weak, manufacturing especially is very weak. Weakness eventually creates a source for rebirth.
But you may have to fall a lot before that happens?
I think we have fallen quite a bit. So, the conditions are getting into place for a stronger growth.
Is that a hope or is that based on some factual analysis?
We have had hope for quite some time that we are stabilizing, we are starting to pick up. The magic impetus which creates the kind of activity – I start doing stuff, I start investing which then creates demand for your stuff which makes you invest. What is missing really is investment. Investment is based as you know on animal spirits. When those animal spirits start picking up I am hopeful the revival of the large projects.
Have you knocked that investment and the revival of animal spirits by hiking interest rates at a time when most people thought you might just maintain the status quo. Industry as you must be aware is very depressed by your hike?
If you talk to the bankers the hike is sort of infra marginal. To put it differently, in layman's language they already see that depositors are demanding a higher rate of interest, much higher than our policy rate because inflation is high.
In other words by bringing the interest rate down you won’t bring down the rate that they borrow at. But have you sent the wrong message nonetheless?
No. What we have done is we sent a signal that we want to bring inflation down. The key problem for them is not the interest rates it is inflation. Unless we bring inflation down deposit rates are not going to come down, bankers are not going to reduce the cost of funding.
Let us then come to inflation. The wholesale inflation index has admittedly come down to 6.16 percent, but the consumer or the retail price index is still at a fairly worryingly high 9.87 per cent and yet on Tuesday you seemed to suggest that there may not be an immediate need for further interest rate hikes. So are you confident that inflation is actually on a glide downwards or once again is this hope?
First you asked me why I raised rates and now you asking me why I have not raised rates enough.
I am picking up on your optimism and I am actually questioning the optimism.
What we have done is taken into account that there is some disinflation in the system, that what was 9.87 per cent is going to come down further next month, probably little further into March. We setting rates at a level that we think is consistent with that disinflation for us to get some byte and for the inflation system to come down to about 8 per cent at the end of the year.
Was your heart in that sentence which suggested to people that in fact another interest rate hike may not be necessary, may not be foreseeable, because a lot of people took heart from that despite the hike that you did?
Our statement was we have done what we think is necessary at this point and hopefully no more.
So it is hope?
It is hope, absolutely. I am not clairvoyant. There may be reasons to do more, there may be reasons to do less.
At the moment you are hoping you do not have to do more.
At the moment I think I have done enough.
Let us come to the fiscal deficit. Given that this year growth is going to be way below the Budget target of 6.4 per cent, given that fuel and fertiliser subsidies are likely to rise perhaps substantially above the Budget target of Rs 65,000 crore because of the depreciated rupee and given that Rs 40,000 crore disinvestment target would be missed by a long margin, do you think Mr Chidambaram can actually meet his 4.8 per cent fiscal deficit target?
I think they will get close. From what I hear there had been substantial amount of spending cuts that have been put in place. I think whether it is 4.8 per cent on the nose or not it will be very close, close enough not to matter that much.
Close enough not to matter, but the problem is if he misses 4.8 per cent having said repeatedly, more often than anything else that he has ever said that he is going to meet that red line, missing it even by 0.01 will actually worry people, won't it?
I think the government will make every effort to meet it. I think there is a high probability that it will. What I do want to emphasise is even if it doesn’t, there has been a substantial amount of fiscal contraction, so much of the heavy lifting will have been done.
You said even if it does not it will not really worry people. I will tell you one reason why people are getting worried is because the cabinet at Rahul Gandhi's behest is raising the cap on subsidised LPG cylinders from 9-12. That will add several thousand crore more to his subsidy bill and if he is anyway missing it, this will make sure he misses it substantially.
I was talking about everything included.
This was included?
What one should be careful about is expanding the misdirected subsidies in the system. We have to be very careful. We need to spend on very important things we are not spending on.
Is an increase in LPG cylinders expanding the misdirected subsidies?
I believe that there is a certain amount of the population that perhaps can benefit from subsidised LPG cylinders. But beyond a certain point you are reaching people who can well afford to pay for it. Whose pocket is that coming from? It is coming from the very pockets of the people who are getting subsidised.
So just to underline when you go from 9-12 you are reaching people who can actually afford to pay who do not need subsidy and this therefore would be a misdirected subsidy.
You are going from 87 to 97 according the government's figures - 87 per cent of the population, 97 per cent of the population. If you are subsidising 97 per cent of the population you are basically subsidising people who are paying for it themselves.
I think the message from the governor is crystal clear. This would be a misdirected subsidy. On the other hand The Hindu on its front page on Monday claimed that Mr Chidambaram will be able to reduce the fiscal deficit to 4.65 per cent which is actually below his 4.8 per cent target with a combination of very severe expenditure cuts, probably mimicking what he did last year alongside pushing to next year a far greater proportion of subsidies than he has done in previous years. To the extent he depends on the latter would he not in a sense be pulling the wool over people's eyes? He is just passing the buck to someone else.
My sense is there is a certain amount of carryover of this year's subsidies into next year's accounting which compensates what was carried over from the previous year.
If he does more than the previous years ….. (Interrupted)
It depends on how much is done etc. Again let me emphasise that there is a fair amount of fiscal correction that is already embedded into the government’s plan.
There is something very interesting when you say I guess it depends on how much more than in previous years because what you are really saying in layman's language, "A little cheating is okay but if you are going to do a lot people will catch you out."
You said it.
A few hours ago the American Federal Reserve has increased the quantity of tapering that it does by $10 billion. Does this have adverse implications for the Indian economy – that concern or perhaps even worry you?
When combined with the fragility of some other emerging markets like Turkey, there is a sense of risk off which pervades the financial markets and during that initial period they tend to be undiscriminating. Perhaps even emerging markets which are more liquid, which are doing better become the place where they sell because they want to get out of emerging markets. I can't sell in place A so I sell in place B which is more liquid. So, we all get hit and we have been hit in the last few days by that. Do I worry that this continues beyond a certain point? I don’t think we are in the same circumstances that we were in July-August.
Our situation is not as vulnerable or as fragile as it was in July-August that is the first point you are saying.
Primarily because of significant actions by the government and the RBI on bringing the current account deficit down.
If he misses the fiscal deficit target which we are now accepting that he may do and if he misses it by a number that worries people rather than an amount that people are sanguine about, would that then with increased tapering create a problem?
I don’t expect him to miss the target. People will look at the totality of the fiscal plan and not just this year but also going forward. So, to that extent a little bit this way that way will not be a huge problem provided there are credible plans over the medium term.
What people worry about is how much debt you are going to build up as a country. Our debt profile is actually quite reasonable.
Future credible plans are only reassuring if you are actually meeting them in this year. If in the first year or the second year you look as if you are failing no matter how credible the future looks people will say will the future also then be unmet or failed?
That is precisely why I said they will look at totality. If you are missing by a little bit but a lot of what you have done eased fiscal consolidation you get credit while if what you are doing is you are missing by a lot and whatever you have done is also in your words pushing stuff into the future then I think you get less credit.
In a recent interview to Nikkei Asian Review you said India could grow at 10 per cent for 20 years provided the right steps are taken. What are the right steps that need to be taken? We all want to grow at 10 per cent for 20 years but what are the right steps?
Infrastructure, human capital, business regulation, finance - four steps.
Infrastructure has been acknowledged as a right step for a long time but no one seems to be doing very much about it?
We have huge plans in place. Delhi-Mumbai industrial corridor, Eastern Freight corridor, Mumbai-Bangalore, these were words, these are now I believe – talking to people who are financing this being translated into action on the ground. Actual investment coming in.
At a fast enough pace to satisfy you?
There is actually competition. Satisfy me? I want to see this progress. However I think we are starting, putting the plants on the ground.
Number two was human capital?
There we are not doing as good a job as we could on quality of education. We have done reasonable job on quantity. We have got everybody at least in the first few years into school. We have got to keep them there by improving the quality of education.
This is at best a medium term, probably in India a long term target to achieve. We don’t seem to do it quickly enough, do we?
We can. If we take really a strong push here, we start testing more kids in school. That is one of the things that we have sort of thrown out of the window. We need to do that.
The telling thing was the stress you put on the word "can" – we can, as if chances are we probably won't?
I don’t think we should be so pessimistic.
Number three was finance.
Number three was business regulation, finance was fourth. Business regulation we have got to make it much simpler. We have got to make it much simpler for the entrepreneur to start up. We need to protect the environment, we need to protect the rights of the under-privileged to their land etc, but we can speed up the process by which we respect those rights, by which we respect the environment.
Does business regulation also include making labour laws easier for people?
I think that is a win-win situation there that we have a vast amount of labour which is unprotected at the same time as we have these labour laws which make it very hard for us to give them more protection.
So, you are saying change the labour laws and make them more flexible?
We can make them more flexible even while giving more protection to the vast number of contractual ….. (Interrupted)
Do you think politicians are in a mood to listen to this advice, to make labour laws more flexible? And having listened to it do you think they are going to be capable of acting because it requires deft action?
I think it requires political will and then communication because I really do think there is win-win for all sides here but it requires a leader to see that and then to start talking about it. Labour thus far has been taboo in some sense. We need people to start talking about it because ultimately the jobs for that demographic dividend that we hope to reap we won't get those jobs until we make these big changes in business regulations.
You are putting a lot of faith in politicians when you say we need a leader to recognise that and then to act on it. So, far when it comes to making labour laws more flexible it is a taboo subject which leaders shy away from. You are hoping the opposite will happen?
Absolutely.
Fourth finance.
Finance is actually the easiest in my view of the four. We need to have a more competitive, inclusive deeper financial system.
This is where you as a governor can play a major role?
Absolutely.
What are your plans there? You have two or three top plans?
Banking system we are going to make more competitive, we are going to bring in a whole new set of structures. We of course have to have these new banks that we are going to licence. So, that’s one. Monetary policy we are going to talk about a little bit. We are going to create a framework which is clear, which is on par with the rest of world. We need to be much more clear about it. Financial inclusion – we need to improve financial inclusion. Reach everybody and reach them not just for credit but payments. Let them have a safe account that they can use.
How much time do you give yourself before you deliver on number four because that is entirely in your purview as governor?
I have a three year mandate that is my contract.
It will be done before the three years are over?
We will push as far as we can to do what we can over the next three years.
I want to remind you of one thing you wrote in one of your articles not so long ago. You said what should central banks do when politicians seem incapable of acting? What is your answer as a central banker in today's context?
What I said in that article is they shouldn’t try and compensate for the politicians because that could create tremendous problems for the system down the line which is what many countries are doing, keeping interest rates really low because they don’t see political action. That is also building up vulnerabilities one of which we are experiencing because we have seen a lot of easy money come into the emerging markets now leaving. However I think in India we can contribute to the growth agenda as a central bank because there is so much development to be done.
One of the things we are focusing on over the next few months is can we push the development agenda from our side because much of it does not require legislative action.
Once again this is a central focus for Raghuram Rajan as governor?
Absolutely.
All the polls suggest that at the national elections just three months down the road we are going to see a BJP led government with Narendra Modi as Prime Minister. How do you as governor of the RBI view the prospect of working with Mr Modi?
Whatever government comes into power the central bank and I would be very happy to work with that government. Whatever government comes in there is a very clear agenda that is necessary for us going forward which is bring back growth.
Let me ask you a simple key question. You were appointed by Dr Manmohan Singh and the Congress administration would you feel a moral need to offer your resignation to a new government so that if they want they can have a new man as the governor? Or you think that would be politicizing the office for you to even think of it?
I haven’t thought about what I would do. I don’t have an easy answer to the question. I think this office as this office of any technical administrator is something that goes on when there is a change in government.
It is above party politics?
As far as I understand which is why I have no comment on the next government. When the government comes in the RBI and I will work with it.
