India's central banks warns government on independence

India’s central bank voiced concerns against the government’s attempts to encroach on its freedom, while seeking more powers to regulate state-run banks as it looks to clean up the country’s banking system.

In a speech in Mumbai, Viral Acharya, deputy governor in charge of monetary policy, said the central bank has limited powers to discipline errant government-owned banks as it lacks the ability to replace officials, scrap licences and to push for mergers. Besides, the government is undermining the central bank’s independence by asking for a greater share of surplus at a time when there is a need to make the RBI’s balance sheet stronger.

“To secure greater financial and macroeconomic stability, these efforts need to be extended to effective independence for the Reserve Bank in its regulatory and supervisory powers over public-sector banks, its balance sheet and its regulatory scope,” Mr Acharya said in the speech that was inspired by governor Urjit Patel’s encouragement to explore the theme. “Such endeavours would be a true inclusive reform for the Indian economy’s future.”

Mr Acharya said that a central bank needs to be independent so that loan losses of banks aren’t swept under the rug by compromising supervisory and regulatory standards.

His comments come after domestic media reported that some unnamed government officials wanted an easing of stringent rules under which a handful of state-run banks are being kept.

Currently a total of 12 banks - 11 in the public sector and one in the private sector - are under the prompt corrective action framework. Under the PCA, lending restrictions, limits on branch expansion and dividend distribution are imposed on banks.

In a speech two weeks ago, Acharya had said that this corrective action was “indeed the required medicine to prevent further haemorrhaging of their balance sheet.” Some of these weak banks are slowly being nursed to health.

Mr Acharya also called on the government not to bypass the central bank’s powers over payment and settlement systems by appointing a separate payments regulator.

“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; their wiser counterparts who invest in central bank independence will enjoy lower cost of borrowing, the love of international investors and longer life spans,” he said.