RBI leadership shift: Sanjay Malhotra takes charge amid interest rate challenges

THE RELATIONSHIP between the Reserve Bank of India (RBI) and the finance ministry has often been marked by a delicate push-and-pull, a dynamic that past governors have humorously highlighted. Y.V. Reddy, who presided over the RBI between 2003 and 2008, once remarked cheekily on the central bank’s autonomy, saying: “The RBI has full autonomy, I have taken the permission of my finance minister to tell you that.” Similarly, when asked how he would have reacted to the demonetisation decision if he were the governor, Reddy had quipped that he would have “checked into a hospital” to avoid confrontation and later resigned on grounds of ill health!

So, when governor Shaktikanta Das checked into a Chennai hospital on November 24, it might have seemed reminiscent of Reddy’s approach. But the only difference is that Das, who took office in December 2018, had enjoyed a notably cordial relationship with the government, marked by his role in navigating contentious policies and presiding over one of the largest surpluses ever transferred by the central bank to the exchequer. So much so that Prime Minister Narendra Modi had lauded Das for his “out-of-the-box thinking” at the RBI’s 90th anniversary celebrations. Hence, Das’ extension, set to be announced before his term ended on December 10, seemed almost inevitable.

Yet, the evening of December 9 delivered an unexpected twist. The appointment of Sanjay Malhotra as the 26th governor for a three-year term took many by surprise. In hindsight, however, it wasn’t entirely unexpected. The RBI had recently faced growing criticism from senior government officials, including finance minister Nirmala Sitharaman and commerce minister Piyush Goyal, over its reluctance to lower the repo rate despite slowing growth. Sitharaman had flagged high interest rates as a deterrent to industrial growth, while Goyal argued that monetary policy should not be overly swayed by food inflation data.

These tensions, perhaps, set the stage for a new face at the helm, someone who is expected to recalibrate the fine balance between fiscal authority and monetary independence.

Malhotra steps into the role at a precarious juncture. Inflation remains stubbornly high, breaching the RBI’s target range at 6.21% in October, while GDP growth is slowing, projected to fall to 6.6% for FY25 from an earlier estimate of 7.2%. The repo rate has been held steady at 6.5% for 11 consecutive meetings, reflecting the RBI’s cautious approach to balancing inflation control with growth support.

Not surprising that Madhavi Arora, chief economist, Emkay Global Financial Services, says, “Policy trade-offs have become even more perplexing with the emerging cracks in the domestic story with the economy stuck in a stagflationary state.”

Global dynamics is only adding to the complexity.

The U.S. Federal Reserve’s December rate cut to 4.25-4.50%, while expected, came with hawkish messaging. Fed chair Jerome Powell noted that the decision was a “closer call” than the prior meeting and emphasised the need for further progress on inflation before easing more aggressively. Powell’s cautious stance reflects the fragility of the global economic recovery, with geopolitical tensions and uneven post-pandemic growth amplifying uncertainties. For Malhotra, these external headwinds complicate any immediate pivot in monetary policy.

Nilesh Shah, MD, Kotak Mahindra Asset Management Company, however, strikes an optimistic note: “Balancing growth, inflation, banking stability, the rupee, and liquidity is no easy task, but the RBI has skilfully managed these challenges over the years.”

Malhotra inherits a more nuanced challenge than his predecessors. While Raghuram Rajan faced inflation at 10.7% and a volatile rupee when he took over in 2013, Malhotra’s dilemma lies in balancing food price volatility with slowing growth. The RBI’s inflation-targeting framework, introduced during Rajan’s tenure, remains critical to its credibility. Any move to cut rates prematurely could risk undermining this framework.

Compounding the challenge is that the rupee has fallen to a new low of 85 despite the RBI splurging $50 billion of India’s forex reserves — which fell from $700 billion to $654.8 billion. Even as the challenges are multi-fold, maintaining a tight monetary stance for too long could choke nascent growth and weaken consumer confidence.

The RBI has other tools at its disposal. A 50-basis-point additional CRR, maintained since May 2022, provides a buffer for managing liquidity, while tweaks to liquidity coverage ratio guidelines are expected in 2025. Measures to attract capital inflows, such as raising interest rate ceilings on FCNR(B) deposits, signal the RBI’s focus on bolstering forex reserves. By February’s policy meeting, inflation and growth trends will likely be clearer, and the Budget’s fiscal stance could provide additional cues.

For now, Malhotra’s remarks as revenue secretary offer insight into his approach. Cautioning GST officials against overly aggressive enforcement, he had reportedly said, “We are here not only for revenue (collection for the exchequer), we are here also for the country’s economy. If, in the process of garnering some small amount of revenue, we are hurting the whole industry and the country’s economy, then certainly, that is not the intent.” This pragmatism may define his tenure as governor, emphasising economic stability over knee-jerk reactions to political or market pressures.

Shah of Kotak sums up the stakes succinctly: “Malhotra has a stellar record as revenue secretary. While individuals do play an important role, ultimately institution matters.”

With retail inflation falling to 5.48% in November, down from a 14-month high of 6.21% in October, it would be interesting to see what path Malhotra chooses — continuity or recalibration, as his choices will impact not just monetary policy but the broader economic landscape in the coming years.