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RBI Governor Raghuram Rajan will soon be completing his first year term as RBI Governor. He came in at a time when the rupee was touching new lows and all measures taken to rein in the current account deficit proved futile. A series of subsequent measures announced by Rajan helped control the rupee as well as provided comfort to the equity markets.
Ambit Capital in a report titled Dr. Raghuram Rajan’s report card’ and authored by Ritika Mankar Mukherjee, Pankaj Agarwal and Ravi Singh have evaluated the governor’s performance on various parameters.
The report says that Rajan’s performance in office was ‘above average but could have been better’. Terming his macroeconomic management as exemplary, Ambit feels that RBI’s regulation and supervision of the financial system continues to be sub-par.
Ambit has attempted to rate the Governor on four parameters -- Containing CPI inflation and inflation expectations, regulating and supervising the financial system, promoting inclusive development and hiring competent personnel and doing so transparently.
These parameters were derived from the goal-setting exercise that the Governor himself undertook on his first day in office through his first speech as the 23rd Governor of the RBI.
Ambit says that the governor has been able to make important changes to India’s monetary policy framework (parameter 1), but his performance on the regulatory front (parameter 2) has been mixed. As regards parameters 3 and 4, his performance has been just above par.
Fighting Inflation
Governor Rajan has lived up to his reputation as a first rate macroeconomist by not only calmly dealing with the sliding INR a year ago but also focusing the RBI firmly on fighting inflation (that too measured by CPI, not WPI). By moving the RBI to an informal inflation-targeting regime and by hiking the repo rate by 75 basis points in 12 months, the Governor has re-positioned RBI as a guardian of the value of the rupee, says Ambit.
However, he has not done enough, which is apparent from the fact that inflation expectations are where they were when he took charge a year ago. As the Fed pulls the US out of quantitative easing (QE), the RBI’s resolve to protect the value of the rupee looks likely to be tested in the coming months.
The report says that the most important change that Rajan administered as the RBI’s governor was to effect a swift transition from being a central bank that ‘loosely targeted both GDP growth and WPI inflation’ to one that is now ‘explicitly focussed on targeting CPI inflation’. The Urjit Patel committee (which was constituted by Rajan) report noted the outright superiority of inflation measured through the CPI vs the WPI in its report. Following the publication of this report, the RBI formally adopted a CPI target.
Regulating the financial system
Over the last 12 months, the RBI has been focused on three specific aspects: (1) Actively addressing asset quality challenges in the banking system, (2) Encouraging better corporate governance for PSU banks, and (3) Closing the regulatory advantage that NBFCs have enjoyed, relative to banks, thus far. The report argues that while the RBI continues to move at a fairly rapid pace on (3), progress on (1) and (2) has been relatively slow.
The authors say that under Rajan’s leadership, RBI is sending out a clear message that the party is coming to an end for NBFCs (non-banking finance companies) that handsomely profit from regulatory arbitrage. Over the past six months, RBI has issued a spate of circulars which give further room to banks to improve their asset quality which also includes a move to mandate a joint approach by all lenders while dealing with large-ticket corporate loans.
RBI also eased regulation for banks to facilitate sale of NPAs to Asset Reconstruction Companies (ARCs). RBI closed the loopholes in the regulation by asking ARCs to have more skin in the game (15% vs 5% earlier) in security receipts issued by them against the NPA they bought from banks. This sort of proactive regulation of banks had rarely been seen in the pre-Rajan world. The RBI has also closed some of the loopholes which potentially allowed banks to ‘evergreen’ stressed loans.
RBI has over the past six months, also announced a series of measures which are intended to help banks manage their stressed exposure to infrastructure projects better.
Promoting inclusive development
Over the last 12 months, the RBI has been focused on three specific aspects in this regard, namely: (1) Liberalising bank branch licensing norms, (2) Granting new bank licences, and (3) Reducing regulatory costs for banks. The report says that while RBI has moved quickly on (1), and (3), progress on (2) has been slow partially due to political considerations and partially due to resistance from New Delhi. But the report does say that it is hard to pin too much blame on Rajan for the delay in granting new bank licences as by the time he joined the RBI the die was more or less cast in terms of the process to be followed for the bank licensing process.
The liberalised branch licensing announced in September 2013 has borne fruits and the total number of branches opened by Indian banks in the Oct-Dec quarter of 2013 was almost twice the number of branches opened in similar quarters in the previous three years.
Hiring competent personnel and doing so transparently
The report also provides 'above par' grade to Governor Rajan's efforts to broadbase hiring of competent professionals from outside the system. The proposals initiated by the new Governor on the recruitment front that are noteworthy include: move to allow lateral hiring from the private sector to expand the RBI’s talent pool and a proposal to professionalise the Human Resource (HR) functions in the Reserve Bank, including the creation of a more effective Performance Management System.
