Reserve Bank of India (RBI) is the central banking institution of India. It plays a big role in both setting and implementing the economic policies of the government of India.
Dr. Raghuram Rajan served as the Governor of RBI from 2013 to 2016. When Dr. Rajan took over, India was facing a tough economic situation. Inflation was rising and the Indian Rupee was weakening. Fiscal deficit was also very high. In fact India was considered one of the “fragile five” economies at that time.
India needed strong economic reforms to sustain the growth of the economy. The reforms had to implemented in a very open and transparent way and had to be done in such a way that the system will actually adapt to them.
There were a lot of people who opposed these reforms. Some of them had genuine concern about how these reforms would affect the Indian economy. Others were opposing him because the reforms would have challenged their own personal agendas. Many bureaucrats opposed him because his reforms were cutting away their power bases.
To propagate the word about the reforms, and to answer the critics as well, Dr. Rajan gave a lot of public speeches during his three year tenure as the RBI Governor. This book is a collection of his speeches. We will look at some of his speeches and try and understand the fascinating world of national economics and how an extremely capable professional like Dr. Rajan handled all the challenges that he had to face.
Let's jump right in and look at the core message in some of his speeches.
In this early speech as the RBI Governor, Dr. Rajan explained the five areas in which his team planned to focus. Let’s look at these one by one.
The first focus area was strengthen the economic policy framework. The main target of this was to reduce the rising inflation. The major concern at this stage was that India’s inflation was badly affecting the food and services industries. This was causing a lot of hardship especially to the economically weaker sections of the society. But blindly implementing policies without taking into account all the possible outcomes would have affected the economic growth. So, Dr. Rajan and his team had to consider multiple data points for any anti-inflation measures, and only then implement them.
The second focus area was to improve the banking systems. To do this Dr. Rajan and his team had to encourage newer bank branches, encourage new varieties of banks and move the foreign banks into a better regulated structure. They announced measures to reward foreign branches to setup Indian subsidiaries. They also took steps to encourage more branches in remote areas so that the people can be served better. They also decided to implement measures by which the Public sector banks can become more efficient and productive to compete against all the private banks in the market.
Third step was to strengthen the markets so that they can better tolerate the financial risks that happen in a growing economy. When the markets are strong, they even help improve the banking sector. This is because the banking sector can offload some of their risks on the market. Strong markets enable entrepreneurs to raise investment funds directly from the markets rather than from banks. This simulates better business growth as well as shield the banks from high risk ventures. This way the market forces and the banks work in a complementary way to strengthen the economy.
Fourth focus are was to make the financial services available to small and medium enterprises, remote areas and unorganised businesses. In short, financial services had to reach the areas where they were traditionally not reaching. Many underprivileged sections of the Indian society does not have access to financial benefits like health insurance and education loans. The financial sector should not just invest in businesses but also help people when they need money for emergency healthcare needs or to fund education expenses. Digitisation had to be brought in so that more and more people could be brought in under the umbrella of financial services. There are many instances where the poor people do not have access to banking services even though they have branches nearby. To address this, technologies like mobile banking have to be leveraged.
The fifth focus area was to improve loan recovery when the borrower is undergoing financial distress. The bank branches often do not take proactive steps to recover loans which have gone bad. They often leave it to their successors to resolve. Instead the banks need to focus on detecting signs of financial distress early so that they can ensure a fair and impartial loan recovery which reduces the risk for lenders and investors.
This speech helped to give a good overall picture of the areas in which the RBI was planning to focus. It also helped address some of the concerns of the business sectors and foreign investors about investing in India.
In this speech, Dr. Raghuram Rajan addressed the burning issue that had everybody worried. Inflation in India was steadily rising and as the economy was moving from low level spending to medium level spending, inflation was acting as a brake to the economic growth. On top of that, inflation was badly affecting the prices of food items. This was hitting the economic weaker sections very hard.
One common way to fight inflation is to raise interest rates. When interest rates are high, borrowing reduces and people save more. This leads to less demand and consequently prices drop.
To generate stable economic growth, inflation has to be kept at a low level. When the public has the faith in the RBI that they will always step in to reduce inflation, then they will confidently go for investing their money in the market. To address this RBI had already raised interest rates thrice in that year.
The problem is that now, industrialists were not happy due to high interest rates. Dr. Rajan then goes on to say that high interest rates are not the real reason why industrialists don’t invest. Also, even if the RBI lowers interest rates, other banks across the country will not lower the interest rates because they have also to consider the rising inflation into their calculations. Hence inflation is the primary target that needs to be attacked.
Now if increasing interest rates can lower the inflation, why is the RBI not raising the rates to extremely high levels and bringing down the inflation in one shot? The answer is that a developing economy cannot sustain such a hard shock. Hence the RBI needs to move carefully to ensure that economy does not get derailed by any sudden moves.
Dr. Rajan gave this speech to defend his policies against a lot of uneducated criticism that his reforms were generating. When the steps taken by the RBI were actually succeeding to bring the inflation under control and improving the economy, lot of people were actually asking him to roll back the improvements he was doing.
The problem is that the general public actually does not care too much about inflation as long as it stays in high single digits. Political parties may keep repeatedly criticising the rising inflation to get public approval but even they don't really understand the true effects of inflation. When interest rates are lowered people become happy and economists celebrate but they don’t realize the bad effect it has on inflation.
When the interest rates are kept high to control inflation a lot of vested interests start misrepresenting to the public that the high interest rates are hurting the growth. They always blame the conservative policies of the RBI for this. The problem is that if the RBI does not raise the interest rates, it will cause an inflationary spiral which will wreck the economy. Initially, if a medium level inflation is left unchecked, it very quickly becomes high inflation. Then pretty soon it turns into runaway inflation.
This is actually something that the public in general and a lot of people with hidden agendas do not realize. They debate the failures of RBI policies without any supporting theory or practical evidence. And when the RBI presents its justifications, they divert the debate by generating a false narrative that RBI measures are against the growth of the economy. This is the criticism that Dr. Rajan addressed in this speech.
In this speech, Dr. Raghuram Rajan sought to build the picture of how the banking in India would be like in the near future. He said that banking in India would be interesting and profitable but also challenging. He then went on to describe why it would like this.
When Dr. Rajan gave this speech, seventeen new banks were about to start operating. RBI policy had also made it easier for good companies with proven track records and good business plans to launch banks. This meant that those sectors which were not having access to good banking services were slowly but surely going to get access to formal banking systems. It also meant that those customers who already had access to banking services would shortly have lot of choices and options.
For newer entrants into the banking fields, competition will be very high. But because there will also be newer sectors and customers to be served, newer banks can still be very profitable. Add to this the impact of newer technologies and IT services, you will have great options for customers. The banks which better communicate with their customers, focus on relationship building, take decisions based on good data, manage risks better and network better will always have an advantage.
India will need a huge amount of financing needs for newer projects in the near future. There are massive infrastructure projects like roads, airports, power stations, railway lines etc in the pipeline. To assess the risks correctly and to ensure that only viable projects are financed, banks will really need to step up their game. For better project evaluation and risk reduction, banks will have to bring in experts to analyze the projects, its reliability and capability to deliver on time. Banks will have to actually step out of their comfort zones and develop industry experience so that they can better assess the risks.
Banks should also tie up with corporate markets to better distribute the risks so that banks alone are not carrying all the risks. They should also reward those projects which deliver on deadline and repay debts on time.
Banks must implement a very dependable system of project lifecycle management and appraisal processes so that if a project is going out of track then they can detect it early and implement corrective measures. IT services can play a really big role in this by automatically identifying incorrect or fraudulent transactions.
Bankers must take personal responsibility for their decisions. While a committee may decide to approve a particular loan, a senior banker must sign off on it. This should be used as a metric for promotion. If a banker has backed successful projects then he should be rewarded for it. If he has only backed unsuccessful ventures then he should be encouraged to improve in this aspect.
All this will require a lot of systematic implementation of digitization and IT services.
Basic challenge that all banks will face is that competition will only increase. Banks will have to figure out innovative ways to serve their customers. This innovation also has to be balanced with stability.
The challenge for the regulatory authorities will be to ensure that they put in place the systems and policies to ensure that most customer oriented solutions come out of this competitive environment. Traditionally public sector banks have had a preferential treatment from the regulatory authorities. First and foremost the authorities have to level the playing field so that the private sector banks also can compete on an equal footing.
Dr. Raghuram Rajan was one of the most well respected and successful Governors of the RBI. He implemented many systemic improvements in the system. He took over when the economic situation was very troubling. Dr. Rajan went all out and boldly implemented steps to stabilize the economy and restore the investors faith in the Indian economy.
This book is a collection of his speeches in which he has justified many of his decisions and educated the general public about the intentions behind his decisions as the Governor of RBI. This is a great book about the turbulent times in which he took over and gives a very deep insight into the challenges that he faced and the expertise and professionalism with which he handled them.
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