History and Introduction

In the literature on financial policy and central banks, the central bank's autonomy has been a
persistent subject. To understand the relationship between the central bank and the government, it
is important to look at certain historical conditions and long standing practices. In 1914, the
Chamberlain Commission included within its report a detailed document by one of its
representatives, John Maynard Keynes, proposing that the three presidency banks be merged into
one central bank, the Imperial Bank of India, which would perform the functions now commonly
associated with central banks. The Central Banking Enquiry Committee report of 1931 highlighted
the importance of establishing a reserve bank as soon as possible, and the concept for establishing a
reserve bank was brought up again in 1933 at round table discussions, although from a different
perspective. The RBI was nationalised in 1948, soon after India's independence in 1947. Early on,
there was a great amount of fiscal responsibility and unity in monetary and fiscal policy, with few
areas of possible dispute.

In these few years of major economic reform, the Reserve Bank of India has been developed as a
respected and prominent institution in public policy. The Reserve Bank of India has a multifaceted
role. It is not only responsible for various monetary functions but also makes transactions on behalf
of the central government. The tasks often involve the administration of the government's public
debt, banking entity regulation and supervision, development finance and other functions. The
Central Board of Directors is in charge of the Reserve Bank's general oversight and direction. The
Governor, Deputy Governor, Ten Directors selected by the Central Government, and two
Government officials nominated by the Central Government make up the Central Board. In the
recent years, The Reserve Bank of India established an organizational Committee to evaluate the
previous legal provisions in both the Reserve Bank of India Act and the Banking Regulation Act in
order to make appropriate legislative changes to provide the RBI with adequate flexibility for
conducting monetary policy, guiding the development of the financial sector, and ensuring the
financial system's proper functioning.Moreover, in a globalised environment, ensuring financial
stability is a key policy goal, and the RBI should have the operational flexibility to control and limit
the damage caused by volatility/contagion communicated through the worldwide economy.

According to the RBI Act, the Central Government may provide the Bank such orders as it deems
necessary in the public interest. Organizational issues, financial concerns, and policy conduct all fall
under the umbrella of central bank independence. Personnel independence refers to how far the
government separates itself from the selection, tenure, and removal of top central bank personnel
and the governing board. It also implies the degree and nature of the government's involvement in
the central bank's governing council. Financial independence refers to the central bank's ability to
decide how much of the government's spending is financed directly or indirectly through central
bank credits. The government's immediate or involuntary access to central bank credits implies that
monetary policy is subordinated to fiscal policy. Finally, policy neutrality refers to the central bank's
flexibility in formulating and implementing fiscal system.

The Burning Issue of Autonomy of RBI at stake:

Time and again, the past Governors of RBI have voiced their concerns and raised issues about how
the autonomy of RBI has been at stake due to unregulated control of the government over the
Central bank. In Raghuram Rajan’s words, “India needs a strong and independent RBI to ensure
macroeconomic stability” The Central Bank is not intended to be a government subordinate. The
Government is a political entity that requires guidance to enable sustainable growth, maintain
economic and financial stability. More than 80 years of the history of RBI provide evidence to the
fact that RBI is the appropriate organization in this aspect. The Government ought not to consider
RBI as its subordinate. Furthermore the blame game between the RBI and the Ministry of Finance
has raised tensions. The focus of both the institutions had shifted away from delivering governance
to protecting their turf. RBI should not be susceptible to demands of the political pressures of the
Government and ignore the future. The Government should quit utilising the RBI against the
Nation's interests and allow RBI to carry out its work in accordance with its statutes, mandates, and
practices.

Legal Analysis of The Untouched Section 7 of The RBI Act, 1934

The tension between the Reserve bank of India and the Ministry of finance has sparked many
debates on the independence of RBI among which is the discussion on Section 7 of the RBI Act.
Section 7 of the 1934 Act has not been used since the inception of the provision.

Section 7(1) of the Act reads, "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".

The importance of the Section is that it grants the central government the power to issue directions
to the RBI on matters of public interest. Similar provisions which grant such power to the central
government can be seen in almost all legislations governing independent regulators in India. Some
examples are Section 16 the Securities and Exchange Board of India Act 1992, Section 55 of the
Competition Act 2002, Section 107 of the Electricity Act 2003 and etc. However, in order to ensure
that monetary policy is not affected by the changes in the political climate, sub-section 1 of Section 7
has placed certain checks and balances on the government for invoking this provision of the act. In
order to issue a direction under Section 7, consultation with the governor of RBI is mandatory and
secondly, the Section can be used only in matters of public interest and not otherwise. It has to be
noted that, while the RBI Act mandates “consultation” with the governor as a prerequisite other
regulators are simply left with the option of expressing their views before the issuance of the
direction. This difference in itself is a testament to the intent of the legislature to provide
independence to the RBI and protection from over indulgence by the government.

The Allahabad High Court in Independent Power Producers Association of India v. Union of India in
paragraph 34 of the judgment held that, though sub-section (1) of section 7 empowers the central
government to issue directions to the Reserve Bank of India it cannot use such powers
indiscriminately and randomly. The court further stated that such direction by the central
government is possible only when there exists sufficient material in support. However, Section 7 is
silent on the flow of consequences from such consultation and the binding effect of such a
consultation on the government while issuing directions. The term “consultation” has been
interpreted by the courts over the years which vary vastly and since Section 7 of the Act, has not
been invoked in the 86 year history of the Reserve Bank of India, it is hard to predict how the judicial
interpretation of the word “consultation” with the respect to Section 7 of the RBI Act, 1934 would
be. The Section also remains silent on whether the government ought to take responsibility for the
consequences resulting from the directions issued by it ignoring the advice of the RBI, if such a
circumstance is to arise. Though this proposal of the government taking responsibility for such a
direction was brought in by the RBI while introducing Section 7, the government rejected the
proposal. Hence, the complete implications arising from Section 7 cannot be determined yet, as it
has never been invoked.

The myth of autonomy and its effects on the economy: An Analysis

The autonomy of the Central Bank gives it discretion to decide on the nature and timing of various
monetary policy interventions, nonetheless it comes with accountability that requires transparency
when it comes to objectives and strategies. Although the autonomy of the Central bank relates to
personnel independence, conduct of policy and financial aspects, the RBI predominantly only has
“functional independence” where it is unconstrained by the government in its actions. However, one
of the major concerns towards the autonomy of the central bank is that such autonomy only exists
in theory, and it does not extend to absolute independence. With the meddling of the government
to forward its myopic views and agendas, such actions have shown to have an adverse effect on the
economy, which is mostly negative. This has led to serious issues such as level of employment, fiscal
growth, monetary policies etc. being ignored.

The major issue that exists is that the policies of the west are being considered as a threshold and
reference point for the policies drafted by the RBI. “What is good for America is best for India”. Due
to the current economic climate and the ongoing pandemic, the factors that are to be taken into
consideration by the west and India are poles apart. The focus of the RBI and the government should
be on targeted growth and development instead of solely depending on mimicking the policies of
the west. The Government needs to leave the central bank alone to decide the right course of action
depending on the current economic climate. The government is already playing a major role in
appointing the Governor, choice of deputies, appointment of independent members and not to
forget the representatives appointed to the board. The main role of RBI is to be a banking regulator
and it should be left to decide on corrective actions and prudential norms to be followed. The
government’s micro management is causing more harm than good.

The actions of RBI to a certain extent is jeopardising the stability of the economy. Following
demonetisation, the duty of RBI to be the saving grace and act as a lender has burdened the Central
bank. Furthermore, the government’s expectations for RBI to tweak its norms to suit its agendas is
worrisome. The government trying to nudge the economy by manipulating the policies, decisions
and norms of the RBI is a major election tactic that has been used time and again in the past and will
be used in the future as well. It’s online activities such as “loan melas” are a borderline facade of
desperate measures to keep the economy afloat. The RBI needs to review its own performance in
terms of its status of autonomy. Exclusively focusing on one single policy issue such as interest rate
or inflation has led to other major issues such as industrial growth, export growth, NPAs, GDP
growth, enabling job creation etc to be blindsided. Monetary policies that ignore the impact of its
actions on the economy are not credible. Most definitely inflation is a serious issue that needs to be
addressed straight away but most definitely not at the cost of ignoring other issues that have an
adverse impact on the economy. Rising account deficit, slow growth, unemployment, reduction in
rate of manufacturing, etc should be reviewed in the monetary policies.
The Autonomy of the RBI with respect to the government intervention, lack of focus on major issues
and the absence of a holistic approach towards economic growth has been a burning issue in the
post liberalisation period and rightly so, is a major concern due to its adverse effects on the
economy.

The RBI needs to achieve autonomy with ensured accountability to help the fiscal system to tone up
and ensure more transparency to ensure steady economic growth. It is the role of the government
and regulators to develop practices to preserve financial stability.

Comments and suggestions

The independence of RBI is determined in terms of independence and the political, executive and
legislative power conferred to it. Big multinational and domestic companies in the country have
created powerful economic interests which further exaggerates the need to ensure independence of
central banks.

The RBI focuses on price stability and availability of credit to meet the needs of the fast-growing
economy. However, we must consider the need for a stable financial sector, especially for markets in
which RBI has increased responsibility. In such cases it is essential that the RBI is given the
independence necessary from government intervention. Thus, in several commentaries and debates
the independence of RBI is emphasized to tackle emerging issues related to financial sector and
market stability while upholding principles of accountability and maintaining transparency.

The emergence of digital banking puts the powers of the RBI under question as the entire role of the
RBI in creation of money is ambiguous. Such trends of changing financial situations put the
autonomy of the RBI under a microscope and their subsequent powers need to be revisited. Further,
with globalization of capital flows the RBI may gain independence and may gain autonomy from the
government but is still bound to follow new rules on the international front. Thus, the independence
of a central bank depends on the separation of the power to spend money and the power to create
money.

It is possible to ensure coordination between fiscal and monetary policies in the three main areas:

Macroeconomic objectives

Consequences of various fiscal and monetary actions to realize evolving ideas

Forecasts of economy in the absence of policy interventions

The accountability of the RBI is determined in the sense where there is a long-term perspective in
mind. The central bank is accountable to the parliament in a narrow sense but is also accountable to
the public at large as defined to be a role of a public institution. Thus, transparency and effective
policy is necessary to combat politics and changing dynamics in the government. Such an approach
on accountability can be fast tracked with increasing the awareness of the public and providing
details of economic issues. Liberalized and developed economies ensure greater awareness and also
contribute to greater accountability. Thus, the bottom line suggests that accountability is the core to
uphold the essence of a democracy.

Conclusion

The Reserve Bank is a non-political body concerned with the finances of the country. The role of RBI
has been redefined through gradual evolution and adaptation, alongside some statutory changes,
and not through any radical restructuring. While assessing the autonomy of the RBI, it is seen that
RBI isn't a pure monetary authority but is accountable for several other functions also, as a financial
institution . With the developments in the recent past, we can conclude that there has been
enhancement of the autonomy of the RBI.

The two important arguments in favour of regulated control of the government over the RBI are
that, if superior technical competence is demonstrable, there is merit in awarding operational
autonomy to the central bank. The central bank is likely to carry greater credibility with the public
when it makes a commitment. There is merit in entrusting it with autonomy. In the future, there will
be a sheer need to improve the efficiency of operations and the RBI will be entrusted with a greater
degree of autonomy and, therefore, a greater degree of accountability. Due to these reasons it is
essential that the policy must evolve in a transparent manner.

Furthermore, RBI works as the monetary authority of India and thereby operates the monetary
policy. The objectives of the monetary policy have remained the same but the framework has been
changed from time to time in a gradual fashion in response to the evolving circumstances.

Contextually, there are three important issues in the conduct of monetary policy, the assessment of
potential output, the measurement of unemployment and appropriate measure of inflation.

Monetary policy of the RBI deals with almost all other vital topics such as financial stability, financial
markets, interest rates, credit delivery, regulatory norms, financial inclusion and institutional
developments etc. There are various selective instruments of monetary policy. However the success
of those tools is restricted by the supply of other sources of credit within the economy, such as the
working of the Non-Banking Financial Institutions (NBFIs), profit motive of commercial banks and
undemocratic nature of these tools. But a right combination of both the overall and selective tools of
monetary policy can give the required results.

Hence to secure greater financial and macroeconomic stability and attain transparency, efforts need
to be extended to effective independence for the Reserve Bank in its regulatory and supervisory
powers over public sector banks, its balance-sheet strength, and its regulatory scope. Such an
endeavor would be a true inclusive reform for the Indian economy’s future.