RBI autonomy essential, says finance ministry amid rift with central bank

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Section 7 (1) of RBI Act states that the Central Government may from time to time give such directions to the Bank as it may, after consultation with the Governor of the Bank, consider necessary in the public interest. While the Economic Affairs Secretary declined to comment on whether Section 7 had been invoked, the official statement also made no mention of it.

"Both government and the central bank, in their functioning, have to be guided by public interest and the requirements of the Indian economy".

Although the government has issued a press statement on Wednesday afternoon in a bid to clarify controversy surrounding invocation of section 7, sources said the tussle has been going on for quite some time and it all started with "forced demonetisation" by the government in 2016. Anonymously-sourced media reports indictated also that the finance minister would not go through the step. Martin Redrado, the central banker, made a decision to go because the Argentine political leadership ordered the bank to transfer its reserve into the government's kitty.

Last week, RBI deputy governor Viral Acharya lashed out at the Central government, saying it was trying to undermine the independence of the central bank.

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Rajya Sabha MP Subramanian Swamy showed his support for Patel and tweeted: "If RBI governor resigns then it is a direct effect of FM blaming him publicly yesterday for NPAs". There are always upcoming elections of some sort - national, state, mid-term, etc. Less important in the present scenario, but only recently so, wars had to be waged, financed and won at all costs. "We firmly hold that undermining the central bank is a recipe for disaster and the government must desist", the All India Reserve Bank Employees Association said in a letter. Unsurprisingly, central banks strive to build credibility through a series of hard choices that reflect sacrificing short-term gains for long-term outcomes such as price or financial stability. Subsequently, the RBI was unhappy with FRDI bill and the government stand on asset quality rating (AQR).

RBI and the government have reportedly been at the loggerheads over several issues including the government demanding ease in lending rules for at least 11 banks under prompt corrective action (PCA) framework, while the regulator thinks otherwise.

As this dynamic plays out, markets watch keenly, and if uncertainty grows and confidence in central bank independence and credibility erode, then markets rap bond yields and exchange rate on the knuckles!

Acharya's speech came after a long-running spat between the government and the RBI over whether the central bank should part with some of its 3.6 trillion rupees ($48.73 billion) of reserves to help fund the country's fiscal deficit.