- Finance minister Arun Jaitley did the right thing by making it clear that the government respects the RBI’s decision on policy rates, something that is within its remit to set, through the new mechanism of the Monetary Policy Committee (MPC) that includes three economists nominated by the government. He was also right to assert the finance ministry’s right to communicate its views to the MPC on what policy rates should be.
- In the era of globalised finance and footloose capital that can shift trillions of dollars across national borders in the twinkling of an eye, fiscal and monetary policy must coordinate, to maintain macroeconomic stability.
- But how that coordination takes place is as important as the need for it. And this is where the MPC’s decision to assert its independence and the finance minister’s open acknowledgement of that independence serve the nation well.
- The fact of the matter is that the binding constraint on the economy is not the cost of borrowing but the structural problem of the banking system’s inability to lend and large companies’ inability to borrow, owing to huge past loans that have turned sour. Resolving this problem has to be the central banks’ priority, as well as that of the government.
- It might not be sufficient to authorise the RBI to restructure the bad loans of the banks it supervises. Political capital has to be spent to make the haircuts that banks would have to take while doing that restructuring viable. If bank chairmen are not assured that such haircuts would not lead to charges of causing loss to the exchequer that land them in jail, few would venture to take the plunge: they would much rather dither and retire, and let their successors handle the mess. Only the government can provide that reassurance, by making it clear that it makes a distinction between decisions that were mala fide and decisions that simply went wrong and would go after only those behind the mala fide decisions.
- The good news is that the government does have enormous political capital, after the ruling party’s sweeping victory in Uttar Pradesh and Uttarakhand.
This piece appeared as an editorial opinion in the print edition of The Economic Times.
via The only way to push up lending, growth is to draw on political capital