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Raghuram Rajan says he presented a scientific process to calculate RBI’s excess capital but government wanted to learn more
January 22, 2019

Raghuram Rajan says he presented a scientific process to calculate RBI’s excess capital but government wanted to learn more

Amid the heated debate over the controversial issue of the Reserve Bank of India's (RBI) capital reserves, former governor Raghuram Rajan spoke to CNBC-TV18’s Shereen Bhan about a “state of the art” report prepared during his tenure to determine how much capital does the central bank need.

Terming the current method of dividend payout from RBI to the government as “arbitrary”, Rajan said other central banks have picked up on the scientific process prepared by a splendid young team at the central bank. The newly formed committee on RBI’s capital reserves under Bimal Jalan is set to meet on January 24.

Watch the video here:

Edited Excerpts:

Former RBI deputy governor R Gandhi is quoted as saying that Raghuram Rajan had put forward a formula on the use of RBI's capital reserves but that was not accepted by the government. What was this formula that you had shared with the centre that was not accepted?

I'm not sure there was a formula. There was a process by which we account for capital, which was, actually, one of the modern processes... looking at the value at risk and how much could be afforded and therefore what we could transfer to the government. I think this is something other central banks have picked up. We were asked to make presentations elsewhere. It is something that offers a basis for discussion going forward and it's something we should think about.

So what was it that you suggested to the government and what was the response that you got?

What we had suggested is, we need a scientific process by which we evaluate how much capital the RBI needs and based on that we declare a dividend rather than negotiate every year during the budget time... how much do you need? How much can we spare? etc...

Do you believe that the process is arbitrary somewhat?

Well, by its very nature it's arbitrary. It's based on what the needs of the government are rather than what the RBI needs in terms of maintaining its balancesheet strength and so on.

So, I would start first by saying here is how much the RBI needs to present a picture of health because we need a strong central bank. And then, anything that is excess should be paid over to the government. It is the government's and the RBI has no call to keep anything that is over and above that.

What is that number?

For that, we need to have an objective process of deciding how much that is. That is what R Gandhi was probably referring to.
We had a team in the RBI do these calculations, prepare these structures -- a splendid young team which essentially read the latest literature and put it together. The question is, is that the basis for proceeding forward? It is state of the art in determining how much capital the RBI needs.

So was that taken forward by the government?

I think we had a discussion then we put it on the table. The board, at that time, approved it, in a sense, this is the basis for the discussion going forward. The government, at that point, decided we need to learn more. So, it wasn't that it was rejected. It was just that we never concluded on that.

Given the work, you did in the past and now, there is this committee on capital reserves looking at the issue... what should be the guiding parameters?

I think the committee will think very carefully about this. I think the two or three big issues that it will consider are - what is the appropriate level for the RBI to maintain a strong, healthy balancesheet? Especially, when it is outward facing, towards the rest of the world.

The second issue is once you have decided this is the quantum that is excess, how do we actually pay it out? Because, there is an accounting issue in whether you can pay out things that are not generated in profits but that are generated through, for example, foreign exchange depreciation. And that accounting issue has to be dealt with because that is a constraint.

The third issue is how do you pay it out without monetising a large part which you cannot really afford to given the liquidity conditions in the economy? All three have to be thought of.

My sense is that previous people have opined, the best way to actually pay out a large dividend to the governmet is to write off the bonds that you hold on the balancesheet of the centre so its debt comes down and you don't monetise the process. That's something to think about. But that's more me speaking with my academic hat.