Independence of the Reserve Bank of India

Reserve Bank of India(RBI) is India’s central banking institution established on 1st April 1935 in
accordance to Reserve Bank of India Act, 1934. The Central Office of the Reserve Bank was
initially established in Calcutta but was permanently moved to Mumbai in 1937. The Central
Office is where the Governor sits and where policies are formulated. The current Governor of
RBI is Shaktikanta Das.
Though originally privately owned, since nationalization in 1949, the Reserve Bank is fully
owned by the Government of India.

The Preamble of the RBI describes the basic functions of the Reserve Bank as:

"to regulate the issue of Bank notes and keeping of reserves with a view to securing monetary
stability in India and generally to operate the currency and credit system of the country to its
advantage; to have a modern monetary policy framework to meet the challenge of an
increasingly complex economy, to maintain price stability while keeping in mind the objective of
growth."

In a recent tussle between RBI and government, Section 7 of the RBI act has come into the light
This provision in the RBI act empowers government to issue direction to the RBI.
According to the reports the government has invoked the Section 7 which has never been used
before. The RBI is an entity independent of the government as it takes its own decisions.
However, in accordance to section 7 the Central Government may from time to time give such
directions to the Bank as it may, after consultation with the Governor of the Bank, consider
necessary in the public interest.

Exercising powers under this section, the government had sent several letters to the former RBI
governor Urjit Patel on issues ranging from liquidity for non-banking financial companies
(NBFCs), capital requirement for weak banks and lending to micro, small and medium
enterprises (MSMEs) .

Let’s look at some of the main differences in the opinion that has led to this problem:

RBI’s reserves
The RBI keeps a large reserve of cash in its money jar, which the government is looking to dip
its fingers into. The government may be of the view that the RBI's large reserve cash, if it is
sitting idle, may be put into use. But the RBI is called the "lender of last resort" for a reason -- it
may need its reserves to step in if a crisis threatens to bring down the entire financial system.
Dividends to government
The RBI holds Rs. 28,724 billion in reserves, which includes foreign currency assets, gold and
sovereign debt receipts. The RBI also gives some of the profit it earns from interest on its bonds
to the government. But the government may want more "in public interest"; some have also
indicated spending in an election year as the reason behind the rush for funds. The government
has reportedly sought more dividends from the RBI in one of the letters.
Interest Rates
The government wants the RBI to cut interest rates. It considers this as a necessity to give the
much needed impetus to the Indian economy. But the RBI has a different view on the matter.
The RBI has not only refused to bring down key interest rates but also raised them, much to the
chagrin of the government, which believes that the central bank is pursuing a policy that goes
against that of the finance ministry.

NPA classification

RBI’s February 12 circular on classification of non-performing assets (NPAs) and norms of loan
restructuring was the next flashpoint. The government saw it as overly harsh, and indeed it
drove all but two state-run lenders into the red.

NBFCs
The government has been insisting that RBI step in to provide relief to non-banking finance
companies (NBFCs), which are grappling with a cash crunch after IL&FS defaulted on
repayments. The central bank has refused to play ball.

The RBI is right in placing weak banks under the PCA. If anything, the RBI says, it has helped
control the problem of bad loans. The government wants the PCA diluted so that bank lending
rises, thereby easing the liquidity crisis. The RBI could have heeded the Centre’s signals on
easing liquidity through extraordinary measures in addition to routine open market operations.
RBI is now pushing for more regulation and taking a conservative stance with keeping the long
term financial stability in mind whereas government is pushing for changes that would help the
economy grows but the at what cost.
With the current government the independence of the RBI seems compromised as it has
enforced section 7 of RBI act first time in the history to get its own way. But even then
government is well within the rules.