The Reserve Bank of India (RBI) is more interested in ensuring that the Centre is able to borrow at a cheaper rate its massive borrowing program of ₹15 lakh crore [in FY23] rather than keeping inflation under control, former finance secretary Subhash Garg tells Fortune India in an exclusive interaction. In other words, the central bank is more focused on its role as a money manager for the government than pursuing its monetary policy objective of maintaining price stability.

Garg’s views resonate with those of the Monetary Policy Committee’s (MPC) lone dissenter Jayanth Varma, professor of finance at the Indian Institute of Management-Ahmedabad. The minutes of the MPC meeting, held on February 10, show that Varma had opposed the consensus view by commenting: “…continued harping on combating the ill effects of the pandemic has become counter-productive and deflects the focus of the MPC away from the core issue of addressing the recessionary trends that go back at least to 2019.”

The six-member panel had voted in favour of an accommodative policy by keeping the benchmark repo rate unchanged at 4% for the tenth consecutive time. The rate setting panel’s stance comes amid growing inflationary pressure as crude prices have hit a 14-year high of over $130 per barrel on the back of the Russia-Ukraine conflict. There is growing concern among market observers that the crisis could push inflation beyond 6%. In fact, since the beginning of 2020 till date, average monthly inflation measured by the consumer price index is hovering at 5.9%, close to the upper end of the MPC’s inflation target band of 2%-6%.

“The central bank possibly wants to ensure that the government wants its borrowings to be fully subscribed at the lower rate. Hence, possibly, we are seeing the kind of policy the RBI has pursued,” opines Garg.

As per the FY23 Budget, total market borrowings of the government is estimated at ₹11,58,719 crore against revised estimates of ₹8,75,771 crore for FY22. Since the borrowing announcement and on the back of a crude flare-up, the benchmark 10-year bond yield has spiked to 6.89% — the highest since July 2019 — even as the rupee has tumbled to 77 levels against the dollar.

As per the Budget, 67% of the fiscal deficit will be funded through net issuances of G-sec of ₹11.2 lakh crore versus ₹7.75 lakh crore in FY22, which is 57% higher than that of FY21. Some analysts feel the odd large dependence on G-sec issuance to fund the deficit is because of the low drawdown of cash balance at ₹8 billion in FY23. They believe the development does not bode well for bond markets and would require the RBI to support the demand-supply balance of G-secs.

Garg believes that, possibly, the RBI thought while for the world, the inflation might have been transitory, in India it was more likely to be enduring in the absence of poor demand, and a weak investment cycle since much of the liquidity in the system was not utilised by banks to expand credit. “So, if investment was not picking up and consumer demand was absent, the RBI felt where would inflation come from and this, possibly, led the brass to underestimate the inflation in the country,” opines Garg.

But much before the Russia-Ukraine crisis began, there were ample signs for the central bank to pick-up as wholesale inflation remained high “Nearly 6-7 months back we were running double digit WPI inflation, and by no means could one argue that the wholesale [inflation] will not seep into the retail [inflation]. Cost plus inflation is evident today as companies are raising prices. How long can they absorb costs and run down their profitability?” explains Garg.

The other misreading by the central bank was on the impact of foreign currency flows on the back of talks by the Fed of unwinding its quantitative easing program and a possible rate hike in the wake of a four-decade high inflation. “My broader sense is that the RBI possibly misread the situation of how the QE unwinding and a possible rate hike was bound to strengthen the dollar and result in foreign currency outflows,” feels Garg.

RBI governor Shaktikanta Das, who chairs the MPC panel, has, however, defended his actions by stating at a public function at the National Defence College that “we have continued with our accommodative stance based on our own domestic growth-inflation dynamics, amidst the current divergence in policy actions of central banks across the world... without compromising on our primary mandate of price stability.”

That does not come as a surprise.

“Given the kind of personalities currently helming the RBI, my assumption is they would try and push as much as possible not increasing the interest rates so they would continue to push the government’s borrowing program in the name of growth and so I’m not very optimistic that the RBI will change its stance,” feels Garg.

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