In an interview with CNBC-TV18's Latha Venkatesh, former RBI Deputy Governor Rakesh Mohan spoke about steps that RBI has taken to counter the economic crisis, whether the central bank and the government are at risk of spending too much or too little, and when he thinks the coronavirus lockdown should be lifted.
Below is the verbatim transcript of the interview.
Q: The Reserve Bank of India (RBI) has broken an agreement, the monetary policy agreement. It is the monetary policy committee (MPC), which must decide rates but without involving the MPC, the RBI has moved the operating rate from repo to reverse repo and cut the reverse repo without involving the MPC, you think it is kosher to do these almost unlawful things?
A: I was certainly very surprised that the RBI has done this because to my understanding this is constrained by the legislation. This is not an administrative order, setting up the monetary policy committee. So I am very surprised that they have done this.
Second, presumably it would have been easy enough to convene the MPC on a remote basis and make such a decision. So that is certainly very surprising. I have to admit that I have never been a votary of the inflation targeting an MPC framework but once you instituted that and have legislation to enforce it then it is regrettable that the RBI decided to do this. I don’t know what went behind the reasoning to do it.
Q: There is something else that the RBI has done, which you can maybe question in terms of the law. I am referring to the fact that it almost definitely bid in a primary auction. The last government auction, the RBI appears to have put in some bids with some banks or primary dealers. Do you think that that is kosher because the Fiscal Responsibility and Budget Management (FRBM) act says that the RBI shall not buy in a primary auction?
A: I don’t know the details or facts behind this. So if it is the case they have done something back to back with primary dealers, it will perhaps not violate the letter of the law. Given that any case, it is doing market operations that could just be a variation of that. So as I said, I don’t know the details of that. So it is difficult for me to comment more precisely on this.
However, I think that what would be more advisable is that this is the time to invoke the escape clause that is in the FRBM, which was inserted two years ago to enable the RBI to participate in primary auctions but the modality of that would be somewhat complicated and that would have been worked on but I do think that I certainly would have no issue at all with the RBI participating in primary auctions but with appropriate transparency, appropriate announcements and appropriate modalities. So on a substantive sense, I don’t have much of a problem with it but I think that the formalities etc have to be maintained. So that this does not constitute a precedent and also that it is done in a very prudential, prudent manner and provides confidence to the markets as well as the citizens in general.
Q: This direct monetization, directly buying bonds from the government - the RBI has not done that since 2002 and you were the witness more than anyone else to the ad-hoc treasury bills, the way in which the government would merrily ask the RBI to monetize its deficit up until the mid-90s. You are okay with RBI doing it now?
A: I think the best way of answering this perhaps is to quote the IMF managing director. I heard in an interview yesterday, where she describes the current crisis as a totally global crisis, which is completely unprecedented. She said, never before in living memory has there been such a combined pandemic and economic crisis together on a global scale. Now I am adding the super global financial crisis was actually north Atlantic financial crisis - these are my words, not hers - just as there was an Asian financial crisis in 1990s. So this crisis is of a much larger scale, again I am quoting MD of IMF, “Global economy is on life support.” What does life support mean? It does mean across many countries in the world, central banks are giving life support to the government of their respective countries. Hence in her words, “We must spend as much as we can and a little more.” She further went on to say that, there is a great uncertainty both in the economic side as well on the medical side, we respect virus developments that may occur so I would say that this is a real Black Swan event because every country has to do – I would say – whatever it takes – in the case of India – to do what is necessary. Of course we have to be careful because we don’t have the advantages that a country like US has or other European countries but nonetheless we have to do whatever it takes to do what is necessary.
So I feel that our strategy has to be two-fold, we have to do whatever is possible to protect people first from the virus and provide treatment as feasible regardless of income levels. Two I would feel that make sure that the food supply chain works as well as it can in the circumstances and make sure there is availability of food especially for the poor who have been rendered jobless by the nationwide lockdown. Three, in terms of priority, we will also have to make sure that companies, small, medium and large, are protected from falling towards bankruptcy. This is essential to protect the financial sector also from the kind of cascading that could take place as a consequence of losses. So the upshot of all this is – there is probably no alternative to permitting the direct financing of the government by the RBI is necessary. So in some sense if we don’t use the escape clause and FRBM in such an unprecedented crisis, when will we use it?
Q: To be fair, the RBI has allowed a lot of WMA, the ways and means advances, to the government. Yesterday it raised the limit to Rs 2 lakh crore for the central government and for the states it has so far raised to almost Rs 52,000 crore, the limit last year, that is the year-ended March 31, was Rs 32,000 crore. So a substantial 60 percent increase in the WMA loans for both center and state, it has done that even if it has not directly bought debt but let me come to the fiscal side. The fiscal situation is also pretty bad, how bad is it in your estimate because taxes are going to fall? Some people are estimating by about 1 percent of gross domestic product (GDP) maybe Rs 2 lakh crore, what is your own estimate of how bad it can get for the fisc?
A: Quite frankly I cannot have a quantitative estimate. I can only make qualitative comments. Yes, of course the fisc will be effective very significantly, first the goods and services tax (GST), obviously since the nation has been in the lockdown for little over three weeks and certainly until May 3, although some relaxations must be happened since yesterday, obviously the GST will take a big knock.
Second, presumably the taxes will take a big knock, income tax, personal income tax as well as corporate income tax.
Third – even though customs duty is no longer form a large proportion of our revenues but given the global trade slowdown and our own import slowdown that will make a huge impact. The only silver lining is the heavy reduction in the oil price levels. So there is going to be a major revenue shortfall and if it is one percent of GDP that wouldn’t surprise me at all.
On the expenditure side, one will have to presumably some of the particular capital expenditures of governments must have slowed down. Having said that, however, as and when the lockdown is lifted, it will be very important for the government to restart those capital expenditures as fast as possible both for the sake of the growth of the economy but also to get as much employment going particularly in construction works as fast as possible. Of course all the additional expenditures I have talked about whether it is to do with food supply or whether it is to do with support of companies for small, medium and large, and I think that what would be important is to figure out ways and means of doing this support maybe through different kinds of guarantees to minimize the fiscal loss but nonetheless, to my mind there is no question that in addition to what the deficit was going to be anyway, which different estimates placed at 7-8 percent of GDP state and central government’s combined, there could be – the expense could be as much as another 5 percent of GDP.
Q: You are okay even if it goes to about 13 percent of GDP even above 10 percent?
A: I cannot say okay but the question is what is the choice that if we don’t do these things, you will have to pay much larger bill later that if it is the case, that companies fell, there are large scale bankruptcies that cascade which then affects the banking system, finally the bill will come to the government just like the NPA bills have been coming to the government in terms of recapitalization of banks.
Q: But should we also worry about other actors in the international scene like rating agencies? Just a couple of days back, Indonesia has been not downgraded but their outlook has been brought to negative but then Indonesia is one notch above the investment grade, we are just about making the cut to investment grade, would we not have to worry if we went into double digit deficit?
A: Given the global nature of this unprecedented crisis which I referred to, I feel that the credit rating agencies should have been the first ones to be put on the lockdown globally. That is the first point.
More seriously, just look at what is happening around. Just take US – they have the advantage of the dollar but US has already announced a fiscal relief programme, it is not stimulus, it is relief programme of around 10 percent of GDP - there is another bill at Congress of about USD 450 billion in addition to the UDS 2 trillion. This is on top when expected deficit prior to the virus of around 5 percent of GDP. So the likelihood is that the US fiscal deficit for this year will be more than 15 percent of GDP.
As I said, the US has special advantages so we don’t have the privilege of doing everything that they can. So in that sense and also the US debt GDP ratio will go beyond 100 percent and this is happening across the world. So I wouldn’t worry about the credit rating agencies as I said they should be locked up and told to go home.
Second we are fortunate as far as the rating agency impact is concerned that we are fortunate and this is policy that many of us have strongly advocated for over the years of not subjecting India to foreign investment substantively in government bonds and so there isn’t the kind of impact that a credit rating downgrade does to us as it does to all the countries.
Of course, it will impact the debt ratings and the costs of the companies of the private sector will have to bear if after the crisis they do go into the foreign markets but I don’t think that this is an issue at all that should worry us now. Quite frankly, I have checked on this with friends here in the US – no one is looking at what the credit rating agencies are doing around the world.
Q: From your perch in the US, you would be better able to tell us about the global economy and from your years of policymaking. The global economy we understand from IMF estimates is going into a contraction, it is a minus 3 percent for the current year, how does that impact India considering that we are supposed to be a more internal facing economy?
A: I would say that we have been consistently underestimating our exposure to the world. We have no longer as close as people think, even we think, we just have to look at the numbers in terms of what rate GDP ratio and including the service sector. So I haven’t yet seen the numbers to do with estimates of a global trade slowdown but very clearly there is going to be a major decline in global trade at least for 2020 and maybe for some time to come as so many supply chains will indeed be disrupted and the issues to do with China.
So the IMF estimate for a contraction for 2020 for the global economy is minus 3 percent. That is the global GDP will be down by around 3 percent for the 2020 according to IMF. They are – of course as always - being optimistic about very quick upturn of 5.8 percent in 2021. So both in terms of the domestic disruptions - of course we don’t know yet how the lockdown will be lifted, when it will be lifted, what will be the phasing, it will have to be done very carefully but nonetheless there will be a somewhat lasting impact of the lockdown that we have had to do. So I think that we do have to brace for clearly a recession in 2020 and depending upon how the lockdown is lifted, how economy comes back into the action, how global trade comes back into action, we have to be somewhat cautious in our expectation or our lift off after the lockdown gets lifted.
Q: We have not seen a recession even in 2008-2009, it was 3 percent growth, we have not seen contraction, not since I started reporting in 1995, what do you think, you think we can bounce back, you are talking of a recession this year for India, do you think we can bounce back or can entities, MSMEs die and simply not be able to re-emerge the next year?
A: This I think is a very serious issue once again since I am perched in the US, let me just talk a little bit about what happened in the US to get an idea of what kind of damage we might have.
The US of course – their per capita income is 25 times plus ours, most of the US is the organized sector, yet what is so shocking here is that within just last month or four weeks or so, the total filings for unemployment insurance has gone up to about 22 million people. That is 13.5 percent of the labour cost. That excludes people who have not been able to file unemployment insurance.
Going back to the 2008-2009 – north Atlantic financial crisis – that maximum then was about 600,000 people filing for unemployment. So it is a massive hit on the US economy. In our case, we don’t have the data, one can just imagine with the large proportion of the economy being at the informal sector, with the large number of people who have been rendered jobless, small companies, whether it is kirana stores or others don’t have the power to keep paying their employees, so there must be large scale distress first of all among employees. Second, the kind of losses that these enterprises must be making – further what I would say is that the Indian lockdown so far is much more stringent than anywhere else. So US - for example trains are running, airlines are running, buses are running, of course at very low, reduced schedules. But quite all of this is that we must have a major impact of what has happened. Something that once again the world has not seen and nor have we. So we have to do everything possible to understand what is going on and take strong and quick measures to protect both people and enterprises of all sizes.
Q: There is a growing argument here that perhaps the government has dug itself into a hole in terms of protecting lives over livelihood too much and now the cost of livelihood could be so high that probably the pendulum has to swing. Would you go with that argument that it is about time we concentrated more on livelihood and kept May 3 as a hard date when we start allowing people to come out?
A: I am more in favour of lifting up the lockdown earlier rather than later. Having said that, the government would have to be guided by the assessments of the health threat - what is true is that the actual number of declared cases and deaths in India are very small relatively to the size of the country. My favourite statistic on that is – that the number of cases in India and the deaths is roughly the same as that of the State of Connecticut where I live in US.
However, the question is – one whether they are understated. Two – whether we have succeeded because of the lockdown in keeping those numbers low and then three that what would happen if the virus goes off in terms of huge infections in the country, it will be a very little to protect ourselves with. I am glad of course that some graded opening has started yesterday and there is an expectation of a larger opening on May 3. I do feel that the transportation should be opened up, perhaps in an upgraded scale so that commerce can start moving.
We don’t have the luxury of the kind of fiscal package that US Germany, Japan and others have done yet we have to do whatever it takes to do what is necessary but at the same time, I think that we do have to be much more keen to start opening up the lockdown because we don’t have the luxury of doing the kind of fiscal action that has been taken elsewhere.
Q: I wanted to ask you one more international question on economic policy question. The Indian government has quietly tweaked the border country rules and changed them in such a way that Chinese companies cannot takeover - Chinese entities cannot takeover Indian companies taking advantage of distressed valuations. You think that is smart tweaking or you think we shouldn’t go down that path?
A: I am surprised by this but of course I am not familiar with the specific provocation that had led to these policy announcements and the urgency of doing this during these troubled times. Having said that, if we can provide a general comment, which is that given what is happening to the global economy where the damage to the western countries that is the US, all western European countries is much larger than what we are observing for the Asian countries. That is number one.
Number two is even prior to the COVID-19 crisis, the projections for the global economy in the next 5-10-15-20 years was that Asia will have a larger and larger weight in the global economy over the next couple of decades and of course especially China. So, we obviously have to do whatever we need to do in terms of any negative thing that China could possibly do to us or their companies but at the same time, if we want a revival after the lockdown, after the COVID-19 crisis then we have to be much more geared for the East and including China. Furthermore if we want manufacturing to be moved from China to US, it is not going to happen if we close our borders to Chinese investment.
Remember that foreign direct investment (FDI) in China did not come through the US or from the west, it came from the south, from the overseas Chinese. So if we have an ambition, which we ought to, to take advantage of this crisis and have activities moving to us from China then this is a wrong thing to do.