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(RBI Governor  & Finance Minister:  Edited Image Courtesy-PIB)  
 
Govt must be Equally Accountable as RBI for Failure to Subdue Inflation
 
Facts have become the casualty once again. And the urgency for an integrated approach to inflation control has got derailed with the national discourse riveted to media-hyped “rift” and “escalating tension” between Finance Ministry and Reserve Bank of India (RBI).  
A few news stories have tried to project the old professional differences between the two entities as the ones between Finance Minister Arun Jaitley and RBI Governor Raghuraman Rajan.  
Mr. Jaitley has thus aptly stated that there is no disconnect between the Ministry and RBI and both are engaged in constant and frank discussions. 
Before coming to need for a rationale and comprehensive inflation control strategy, consider first a few facts. It is fact that the differences over public debt management agency (PDMA) and monetary policy committee (MPC) are not between Mr. Jaitley and Mr. Rajan. Both are merely reflecting the well-know respective stance of the respective entities they head. 
The differences are not new. They had developed much before the two decision-makers assumed charge of their respective offices.  It is just a re-emergence of turf battle that has simmered for several years.
Mr. Rajan has in fact staged climb-down from RBI’s well-reasoned reservations over setting up of PDMO and inflation management as stated in December 2012. RBI had communicated its reservations as feedback on Financial Sector Legislative Reforms Commission’s (FSLRC’s) Approach Paper.
As put by the feedback submitted by Mr. Rajan’s predecessor D. Subbarao, “To achieve public policy objectives of ensuring growth, price stability and financial stability, the coordination between monetary policy, fiscal policy and sovereign debt management is critical. Clearly there is synergy if monetary policy and sovereign debt management remain with Central Bank particularly in countries like ours with huge fiscal deficit warranting large market borrowing without disrupting financial market stability. Reserve Bank has recommended to the government to defer its plans for establishment of PDMA until the preconditions for separation, in particular durable fiscal correction, are met with.”
RBI should tell the Government that its cherry-picking of recommendations of august bodies would not deter bugbear of inflation. The Finance Ministry should simultaneously act on the price control-related recommendations of both FSLRC and 14th Finance Commission (FC) and previous FCs. 
The Finance Ministry’s pick-and-choose approach mirrors its desire to operate as an unaccountable big brother. The approach shows reluctance to herald the requisite and credible fiscal transparency. The approach implies aversion for serious fiscal and non-fiscal reforms.
Thus, like the UPA regime, Modi Sarkar also wants to change the goal posts for fiscal and revenue deficits by tinkering with Fiscal Responsibility and Budget Management Act (FRBMA). The latter is also pursuing the former’s policy of creative accounting: It is rolling over overdue payments/expenditure to the next year. It is also paying partly fertilizer subsidy through devious technique of special banking arrangement.  
NDA Government has picked FSLRC’s recommendations to set up PDMA and MPC. Presenting the Budget for 2015-16, Mr. Jaitley stated: “To ensure that our victory over inflation is institutionalized and hence continues, we have concluded a Monetary Policy Framework Agreement with the RBI, as I had promised in my Budget Speech for 2014-15. This Framework clearly states the objective of keeping inflation below 6%. We will move to amend the RBI Act this year, to provide for a Monetary Policy Committee (MPC).” 
The comprehensive amendments to RBI Act proposed in the Finance Bill also provide for setting up of PDMA. The bill also lists the functions of the proposed corporate entity on whose board both the Government and RBI would be representatives would be appointed. 
The Budget also coincided with the release of Monetary Policy Framework Agreement (MPFA) that the Government signed with RBI on 20th February 2015. 
MPFA provides for inflation target of less than 6% percent for 2015-16 and 4% plus minus 2% for the subsequent years. 
These targets are broadly in line with the recommendations of Expert Committee on Monetary Policy Framework that submitted its report in January 2014 under the chairmanship of RBI Deputy Governor Dr. Urjit R. Patel. 
NDA Government deserves applause for formally fixing the inflation target and for creating an institutionalized arrangement for holding RBI accountable for failure to achieve inflation target. It also requires RBI to forecast inflation for 6-18 months period. 
Rise in prices hurts the poor most. It makes a mockery of the quest for inclusive growth. Moreover, annual inflation above 5.5% also slows the economic growth rate as concluded by certain studies. Keeping a tight leash on inflation without sacrificing growth is a challenge. It is also the prime objective for the Government of the day. Inflation is an issue even in developed countries that follow inflation targeting with religious zeal.
It is a pertinent to quote IMF economist Ceyda Öner.  In an article on Inflation updated in February 2012, Öner observed: “Politicians have won elections with promises to combat inflation, only to lose power after failing to do so. Inflation was even declared Public Enemy No. 1 in the United States—by President Gerald Ford in 1974.”
Mr. Ford’s belief is pertinent for India as it teeming with crores of people living below the ridiculously defined poverty line. They suffer from hunger, malnourishment, despair and diseases. 
To affirm its faith in Mr. Ford’s wisdom, Modi Government should give equal importance to fiscal policy as laxity in management of fiscal deficit and revenue deficit contributes to price spiral. 
It deserves a rap on its knuckles from Parliament for shirking from setting up an independent fiscal council as recommended by FFC as well as the preceding FC. 
There is in fact an urgent need to set up this body to monitor the compliance of the Centre and the States with their respective fiscal laws. The effect of non-compliance on inflation and the poor people should be elaborated in council’s reports which should be submitted to Parliament and State Assemblies. It might be modeled on the lines of Comptroller and Auditor General. 
Just as the proposed MPC is essential for formulation and implementation of monetary policy, Fiscal Council is urgently required for preparing and implementing  a credible fiscal policy. After all, monetary policy and fiscal policy are equally important tools for inflation control. They are like two wheels of a two-wheeler. 
It is here pertinent to quote a study titled ‘Research Report on Queries Raised by the Fourteenth Finance Commission’.
Submitted by Vidhi (Centre for Legal Policy) in October 2014, the Study recommended setting up of a ‘Joint Fiscal Responsibility and Budget Management Council’. 
The Study says: “The purpose of such a Council will be to act as an expert, independent body to co-ordinate fiscal strategies between the Centre and States and oversee compliance with FRBM legislations. One of its key functions will be to advise both Central and State Governments on borrowings and if felt necessary approving borrowings by State Governments if and when Article 293 (3) does not apply.”
Article 293(3) of the Constitution empowers the Centre to control the fresh borrowings by the indebted States. 
The Study adds: “The Council must be set up by a parliamentary legislation. The legislative competence to do so is derived from Article 246(2) of the Constitution read with Entry 20 of List III which deals with ‘Economic and Social Planning’. Since the purpose of the Council is to ensure overall fiscal co-ordination and strategy including oversight of union and State borrowings, its functions are squarely covered by this legislative entry.”
The need for the Government to embrace fiscal discipline as the governance Dharma has also been aptly driven home by another study commissioned by the 14th FC. It says that National Small Saving Fund’s (NSSF’s) “recurring operational loss is simply hidden revenue deficit.”
The study captioned ‘Fiscal Transparency and Sustainability of Small Savings Schemes' observes: “Contrary to original intent of the scheme, there has been steady accumulation of operational deficits in NSSF accounts (Rs.69103 crore by 31st March 2013, which is projected to rise to Rs.91275 crore by 31 March 2014 and Rs.112728 crore by 31st March 2015.)”.
It continues: “NSSF’s operational deficit/surplus should have more or less been modest and stable. This amounts to financing expenses of a revenue/recurring nature out of capital raised from SS depositors. So there is a serious sustainability issue with NSSF. Besides, there is also a serious fiscal transparency issue as well since this income deficit is not included in the Centre’ Revenue Deficit, NSSF being out of reckoning from the fiscal accounts of government’s expenditures and revenues. Had these treasury banking operations been subject to transparent and prudential regulations, such build-up of accumulated operational deficit would have been red-flagged by regulators long back.”
Mr Rajan should take up this observation as a wake-up call. It is time for him to stand up and speak for fiscal discipline. He ought to put cogent arguments before Mr. Jaitley for strict fiscal discipline as a pre-requisite for reigning in prices. 
He should also take up with Mr. Jaitley the persisting neglect of recommendations of FCs regarding the burden on central state finances resulting from Pay Commissions. Monetary policy cannot hold the inflationary impact of Commission-engineered hike in salaries of central government employees and its staggered spillover impact on the States and the private sector. 
The 14th FC recommended: “we reiterate the views of the FC-XI for a consultative mechanism between the Union and States, through a forum such as the Inter-State Council, to evolve a national policy for salaries and emoluments.”
Prior to this, Urjit Patel Committee stated, “administered setting of prices, wages and interest rates are significant impediments to monetary policy transmission and achievement of the price stability objective, requiring a commitment from the Government towards their elimination.”
One can cite several other populist and non-monetary factors that play periodic but major role in fueling inflation. The public thus needs to be informed that monetary policy is not a magic wand. RBI should therefore not be made the scapegoat when the inflation targeting flops under the combined weight of political follies at the Centre and the States. 
Mr. Jaitley’s strategy to control inflation through excessive reliance on monetary policy would turn out to be a flop show when the global commodity prices return to bullish phase, when Rupee takes a beating due to external factors and when domestic production and supply bottlenecks come into full play under certain situations.
Apart from synergetic use of monetary and fiscal policies, the Government ought to unleash robust competition in all sectors to facilitate competitive pricing and supply of goods and services. If and when the Government cleans its policy and regulatory slate and the States act in tandem with the Centre, one can dream of moderate inflation of two to three percent without comprising on the growth rate of eight percent. 
All said and done, the buck for failure to control inflation and usher in elusive Acche Din for inflation-mauled Aam Aadmi stops at Mr. Jaitley’s door. 
 

 

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