India’s central bank warns on importance of its independence

But it may not amount to anything more than background noise

Long-simmering discord between the Indian central bank and the government is turning into a very public brawl. The timing couldn’t be more awful for markets.

In a hard-hitting speech on the central bank’s independence, Reserve Bank of India (RBI) deputy governor Viral Acharya startled his audience by invoking Argentina of 2010.

Back then, the Argentine central bank chief quit after being coerced to hand over a part of the central bank’s reserves to the government, causing panic in the markets. Knowing that similar pressures exist in India, investors would be right to ask if Acharya’s boss — Governor Urjit Patel — is also contemplating a showdown with Prime Minister Narendra Modi’s government.

Last week’s stormy and inconclusive RBI board meeting, where the government’s nominee directors turned up the heat on Team Patel, is being seen as another indication of a rapidly souring relationship.

Patel already seemed resigned to a single term, like his predecessor Raghuram Rajan. Now, as the Times of India says, “questions have arisen over his continuance”. That’s disturbing speculation in an emerging market facing a hawkish US monetary tightening cycle on one side and a crisis of confidence in domestic lending institutions on the other. .

Disagreements on monetary policy between the government and the central bank are common. The pressure on the RBI is on the banking side, with influential voices portraying it as a regulator that’s destroying state-run lenders and denying credit to small businesses.

Modi’s government, the biggest shareholder in 70 per cent of the country’s banking system, hasn’t done enough to restore calm. Quite the opposite. Forcing Patel to carry out an overnight ban on 86 per cent of the country’s cash was bad enough, especially since the much-touted $45 billion (Dh165.2 billion) fiscal bounty from that harebrained exercise never materialised. The ultimate insult, though, was the recent appointment of Chennaibased accountant S. Gurumurthy to the central bank’s board.

In early 2016, this RBI troll had run a relentless campaign against Rajan’s “sledgehammer” approach, saying the former IMF chief economist’s purpose in making lenders come clean on asset quality was perhaps to weaken them so that they could be sold to foreigners.

Rajan is long gone, but the spin that the RBI’s western-trained economists are inadequately nationalistic — and out of touch with the reality on the ground — is stronger than ever.

“Governments that do not respect central bank independence will sooner or later incur the wrath of financial markets, ignite economic fire, and come to rue the day they undermined an important regulatory institution,” Acharya said in conclusion.

If the standoff with the government gets any worse, a test of the central bank’s dire warning could come soon.