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During global turmoil macroeconomic stability should not be risked

Ahead of the Budget Reserve Bank of India Governor Raghuram Rajan on Friday cautioned against deviation from the fiscal consolidation path which he said could hurt macroeconomic stability.

During the global turmoil macroeconomic stability should not be risked and both the government and the central bank should continue to bring down inflation Dr. Rajan said.

The growth multipliers on government spending at this juncture are likely to be much smaller so more spending will probably hurt debt dynamics.

“Put differently it is worth asking if there really are very high- return investments that we are foregoing by staying on the consolidation path?”

“As Brazil’s experience suggests the enormous costs of becoming an unstable country far outweigh any small growth benefits that can be obtained through aggressive policies… We should be very careful about jeopardising our single most important strength during this period of global turmoil – macroeconomic stability.”

Taking the fiscal deficits of the Centre and states the consolidated fiscal deficit for the country rose last year to 7.2 per cent from 7 per cent. “So we actually expanded the aggregate deficit in the last calendar year.”

Originally the target was to bring down fiscal deficit to 3.6 per cent of the GDP in 2015-16 but it has been postponed by a year. Now government is targeting 3.9 per cent in the current fiscal. Deviation from the fiscal consolidation path could push up government bond yields both because of the greater volume of bonds to be financed and potential loss of government credibility on future consolidation Dr. Rajan said while delivering the CD Deshmukh Memorial lecture.

A slowing in inflation has been on account of the “joint work” of the government and the RBI aided to some extent by the fall in international commodity prices he said. “This is no mean achievement given two successive droughts that would have in the past pushed inflation into double digits.”

Dr. Rajan said that it was unfortunate that despite the success on the inflation front there are voices suggesting weakening the fight against inflation.

Inflation framework

“Let me therefore reiterate that we have absolutely no intent of departing from the inflation framework that has been agreed with the government. We look forward to the government amending the RBI Act to usher in the monetary policy committee further strengthening the framework.”

With the government’s UDAY scheme to revive state power distribution companies set to become operational in the next fiscal it is unlikely that states will be shrinking their deficits he said..

This will put pressure on the Centre to adjust more Dr. Rajan said. The NDA government had last year put a pause on the fiscal consolidation path postponing reduction in fiscal deficit target by a year.

He stressed that macroeconomic stability relies immensely on policy credibility which is the public belief that policy will depart from the charted course only under extreme necessity and not because of convenience. “If every time there is any minor difficulty we change the goal posts we signal to the markets that we have no staying power” Dr. Rajan said.

NEW DELHI: A day after stating that “there are problems with the way we count GDP” RBI Governor Raghuram Rajan today said he has never raised doubts over the GDP numbers and they are broadly correct.

Reserve Bank of India Governor Raghuram Rajan on Friday backed fiscal consolidation over “aggressive” policies to boost economic growth as the finance ministry grapples with a dilemma between economic stability and growth ahead of the Budget.

Delivering the C D Deshmukh memorial lecture at the National Council of Applied Economic Research in New Delhi he also favoured greater competition among banks saying the government should decentralise decision making in public sector banks (PSBs) after professionalising their boards. Asserting that some stressed loans have to be written down to improve the health of PSBs Rajan said it will pave the way for mergers and help optimise their resources. “The consolidated fiscal deficit of the states and Centre in India is by far the largest among countries we like to compare ourselves with; presently only Brazil a country in difficulty rivals us on this measure” Rajan said.

He cited International Monetary Fund (IMF) estimates saying that the consolidated fiscal deficit of the Centre and states went up from 7 per cent in 2014 to 7.2 per cent in 2015. “So we actually expanded the aggregate deficit in the last calendar year. With UDAY the scheme to revive state power distribution companies coming into operation in the next fiscal it is unlikely that states will be shrinking their deficits which puts pressure on the Centre to adjust more” he said while adding that it is the IMF figures which investors watch.

The governor questioned arguments by those favouring fiscal expansion on the grounds that it is necessary to generate the growth needed to put our debt to GDP ratio back on a sustainable path. “This is a novel argument. Ordinarily one would think that a government should borrow less that is run lower fiscal deficits in order to reduce its debt. But there is indeed a theoretical possibility that the growth generated by the fiscal expansion is so great as to outweigh the additional debt that is taken on. Unfortunately the growth multipliers on government spending at this juncture are likely to be much smaller so more spending will probably hurt debt dynamics” he said.

“Put differently it is worth asking if there really are very high return investments that we are foregoing by staying on the consolidation path?” he wondered.

Rajan said the common man does not really care whether the government stays on the consolidation path or not. “But the bond markets where we have to finance over Rs 10 lakh crore of deficits plus UDAY state bonds do care. Deviating from the fiscal consolidation path could push up government bond yields both because of the greater volume of bonds to be financed and because of the potential loss of government credibility on future consolidation” he said.

Rajan quoted American strategist James Carville: “I used to think if there was reincarnation I wanted to come back as the President or the Pope or a 400 baseball hitter. But now I want to come back as the bond market. You can intimidate everybody.”

Rajan cited the example of Brazil as a similar developing economy which tried to grow too fast through artificial monetary policy stimulus and paid the price. He said the fellow member of the Brics is now grappling with high inflation and fiscal deficit with growth having shrunk by 3.8 per cent last year. “As Brazil’s experience suggests the enormous costs of becoming an unstable country far outweigh any small growth benefits that can be obtained through aggressive policies. We should be very careful about jeopardising our single most important strength during this period of global turmoil macroeconomic stability” Rajan told the audience.

“It is to the immense credit of the (Indian) government that we have over seven per cent growth low inflation and a low current account deficit. But it is at such times that we should not be over-ambitious” Rajan said

Ahead of the Budget Reserve Bank of India (RBI) Governor Raghuram Rajan today warned against generating economic growth through additional debt saying that any deviation from the fiscal consolidation path will hurt stability of the economy.

“As Brazil’s experience suggests the enormous costs of becoming an unstable country far outweigh any small growth benefits that can be
Delivering the CD Deshmukh Memorial lecture Rajan said there is a public discussion whether India should yet again postpone fiscal consolidation path with some arguing that it could lead to higher growth.

“Unfortunately the growth multipliers on government spending at this juncture are likely to be much smaller so more spending will probably hurt debt dynamics. Put differently it is worth asking if there really are very high- return investments that we are foregoing by staying on the consolidation path?” he said.

Rajan said that consolidated fiscal deficit of the Centre and states rose to 7.2 per cent in 2015 from 7 per cent in the previous year.

“So we actually expanded the aggregate deficit in the last calendar year. With UDAY the scheme to revive state power distribution companies coming into operation in the next fiscal it is unlikely that states will be shrinking their deficits which puts pressure on the centre to adjust more” he said.

The NDA government had last year deviated from the fiscal consolidation path postponing reduction in fiscal deficit target by a year.

Originally the target was to bring down fiscal deficit to 3.6 per cent of the GDP in 2015-16 but it has been postponed by a year. Now government is targeting 3.9 per cent in the current fiscal.

Rajan said deviation from the fiscal consolidation path could push up government bond yields both because of the greater volume of bonds to be financed and potential loss of government credibility on future consolidation.

He said that fall in inflation has been on account of the “joint work of the government and the RBI aided to some extent by the fall in international commodity prices. This is no mean achievement given two successive droughts that would have in the past pushed inflation into double digits”.

Unfortunately he added despite the success on the inflation front there are voices suggesting weakening the fight against inflation.

He said: “Let me reiterate that macroeconomic stability relies immensely on policy credibility which is the public belief that policy will depart from the charted course only under extreme necessity and not because of convenience. If every time there is any minor difficulty we change the goal posts we signal to the markets that we have no staying power.

“Let me therefore reiterate that we have absolutely no intent of departing from the inflation framework that has been agreed with the Government. We look forward to the Government amending the RBI Act to usher in the monetary policy committee further strengthening the framework.”

Macroeconomic stability Rajan stressed would be the platform on which “we will build the growth that will sustain our country for many years to come no matter what the world does”.

On the interest rate he said both industrialists and retirees overstate their case and the way to resolve their differences is to bring CPI-based retail inflation steadily down.

RBI is scheduled to announce the next bi-monthly monetary policy on February 2.

Rajan also cautioned against raising tariffs to protect the domestic industries which are facing problems.

“Clearly there are industries in trouble. We should however be particularly careful about raising tariffs at a time when costs are falling everywhere – aside from the inflationary impact for every happy domestic businessman whose prices are raised by the imposition of tariffs on imports we have an unhappy domestic businessman whose costs are raised by the very same tariffs as well as unhappy consumers” he added.

Rajan said that though RBI is in “fine fettle” the world today is much less comforting as industrial countries were still struggling with a few exceptions to grow.

“Our fellow BRICS all have deep problems with confidence about China waxing and waning. Indeed India appears to be an island of relative calm in an ocean of turmoil” he said.

Citing the example of Brazil which is facing double digit inflation Rajan said it is confronted with financial problems because it tried to grow too fast on the back of substantial stimulus.

He added: “While the Brazilian authorities are working hard to rectify the situation let us not ignore the lessons their experience suggests. It is possible to grow too fast with substantial stimulus as we did in 2010 and 2011 only to pay the price in higher inflation higher deficits and lower growth in 2013 and 2014.

“Of course India is not in the same situation today. Given the inhospitable world economy and two successive droughts either of which would have thrown the economy into a tail spin in the past it is to the immense credit of the government that we have over 7 percent growth low inflation and a low current account deficit. But it is at such times that we should not be overambitious.”

The Brazil’s experience suggests that the enormous costs of becoming an unstable country far outweigh any small growth benefits that can be obtained through aggressive policies he said adding that “we should be very careful about (not) jeopardising our single most important strength during this period of global turmoil macroeconomic stability”.

Reserve Bank Governor Raghuram Rajan on Friday invoked ‘dosa economics’ to explain that pensioners are better off in the regime of falling inflation.

Delivering the C D Deshmukh memorial lecture in the capital he said that a pensioner would be able to buy more number of dosas from lower interest income provided the inflation remained under control.

“…while I sympathise with pensioners they certainly are better off today than in the past” Rajan said. Elaborating his point the RBI chief said a pensioner would be able to buy less number of dosas if the interest rate as well as the inflation remains high.

However pensioner’s ability to buy dosas would increase with fall in inflation as it would also protect the purchasing power of the principal amount invested in bank deposits or other debt instrument

Pensioners oppose lowering of interest rates as it directly hit their income. Rajan has been trying to keep the retail inflation under check despite pressure from the Finance Ministry and the industry to cut interest rate to boost growth. He will be coming out with the next bi-monthly monetary policy on February 2.