Friday, November 06, 2015

Central bank autonomy is an issue in the US too

Much has been said and written about the differences between the RBI and the finance ministry over several issues, especially the composition of the proposed Monetary Policy Committee (although it appears that agreement has finally been reached on this issue; I understand that the MPC will have three members appointed by the government and three members of the RBI with the governor having the casting vote ).

The issue of accountability of the central bank, however, remains. As per the inflation targeting agreement reached between the RBI and the government some time ago, the RBI has to explain its failure to meet the inflation target. However, in this scheme of things, there is no accountability for output falling below potential output. There is also no accountability on issues of financial stability, exchange rate volatility, etc. On these accounts, accountability is largely a matter of the central bank preserving its reputation.

In the US, the Fed chairman appears before Congress to explain aspects of monetary policy. However, moves are afoot now to introduce legislation to formalise accountability. Bills have been mooted in Congress which would impose formal audits of the Fed's monetary policy actions by the Government Accountability Office (GAO), have the  Fed adhere to formal rules for setting interest rates, such as the Taylor Rule and introduce more frequent reporting to the  Congress on monetary policy. Stanley Fischer, the Vice Chairman of the Fed, has criticised the proposed moves saying that they “represent a departure from the modern governance structure that has come to characterise the Fed and leading central banks around the world”.

There is also a move to tap the Fed for fiscal purposes, which reminds one of the enormous increases in the transfer of surpluses from the RBI to government in recent years (it was Rs 66,000 crore in the last fiscal).

I have long argued that autonomous institutions (such as the RBI, IITs and IIMs) must also have formal mechanisms that ensure accountability to elected bodies. I, therefore, have broad sympathy for the measures proposed in the US. I am also a believer in the mechanism of Independent Audit for  major government agencies, including autonomous agencies. (For instance, the CAG itself may be subject to audit). These audits should, of course, focus on broad outcomes but they must also look at internal processes- how decisions are taken, the HR issues in these agencies and large expenditure incurred.

The trouble with autonomous institutions very often is that as long as they do reasonably well in respect of one or two key outcomes- and even these are not properly defined- all else becomes irrelevant. This often reduces these institutions and agencies to the private fiefs of their heads. Accountability to parliament alone can act as a check on arbitrary exercise of power and it alone can ensure that the outcomes are in consonance with desired objectives. (Which should explain why I have long been in favour of the IIM Bill).

Coming back to the RBI, it would be useful to have the Governor appear before parliament to explain aspects of monetary policy. It would also be useful to subject the RBI an Independent Audit commissioned by Parliament. These audit reports should be placed in the public domain. It's not enough that the RBI meets the inflation target. The entire range of outcomes for which the RBI is responsible- output and unemployment, competition in banking, customer service, financial stability, exchange rates- must be subject to review. Autonomy for the RBI in monetary policy and other matters must go hand in hand with accountability to parliament.

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