Financial Standards and Codes: Report of The Advisory Group on
Transparency in Monetary and Financial Policies - Criticl Evaluation of India's
compliance with International Codes

This chapter attempts a broad brush approach to evaluate critically the transparency of monetary and financial policies in India against the backdrop of the Code of Good Practices adopted by the IMF. The RBI’s policies and operations largely conform to the IMF Code, but there are clearly a number of areas where improvements need to be made before India can be said to be fully compliant with the IMF Code. A code by code evaluation would not be meaningful and a holistic evaluation would provide a better focus on areas where changes are necessary.

Over the years the RBI has developed a tradition of providing extensive data on monetary and banking indicators, information on the external sector including liabilities and assets, exchange rates and exchange market operations, foreign exchange reserves and the RBI balance sheet. Extensive analysis is provided in its various reports which bear up well in comparison with similar reports released by central banks in developed countries. Moreover, the RBI, while announcing various measures, has progressively developed a practice of providing a detailed assessment of the macro economic backdrop and the rationale of its policies. Furthermore, the Governor and Deputy Governors in their speeches not only explain the extant policies but also explore issues at the frontiers of policy. The release by the RBI of the document Macro Economic and Monetary Developments in 1999-2000 issued with the Statement of Monetary and Credit Policy for 2000-2001 (April 27, 2000) is a step in the right direction and the RBI should persevere with further improvements in such presentations. As such, in the area of dissemination of information and the rationale of policies the RBI could be considered as being in accord with international best practices though there could be scope for further improvement, especially in providing precision to the monetary policy mandate and revealing of the process of monetary policy formulation. The Advisory Group recommends that the process of communicating the policy process, albeit on a post facto basis, needs to be institutionalised. The Advisory Group is, however, of the view that there is a need for greater transparency in the policy formulation process which is discussed in some detail in the rest of this Report.

Before addressing the issues of transparency of the policy formulation process it is necessary to focus attention on certain structural issues which emanate from the Constitution and legislative matters relating to the RBI. Under the extant provisions it is the government which is accountable to Parliament and in turn the RBI is accountable to the government. The National Commission to Review the Working of the Constitution is, reviewing various aspects of the Constitution and, inter alia, issues relating to money and finance are also under consideration and as such the present Advisory Group has not attempted an examination of constitutional issues. The Advisory Group, however, hopes that the National Commission would, address the relevant constitutional issues as they apply to the RBI.

The RBI is not directly accountable to Parliament and as such any presentation by RBI before a Parliamentary Committee is only by way of a supportive role for government officials deposing before a Parliamentary Committee. It is only in the case of issue specific, rather than general, inquiries that RBI officials are directly summoned by Parliamentary Committees, in contrast to the United States where Congressional testimony by the Federal Reserve is the practice.

The preamble to the RBI Act entrusts the Bank with core objectives of (i) issue of bank notes, (ii) keeping of the reserves to securing monetary stability and (iii) operating the currency and credit system to the country’s advantage. The RBI Act enjoins responsibilities to the Board on the maintenance of government accounts, the management of public debt, exchange management and control, formulation and implementation of monetary and credit policy, regulation and supervision of banks and non-bank financial intermediaries.

While the Act provides adequate powers to the RBI to use various instruments of monetary policy, there is no provision for a systematic and transparent setting of objectives of monetary policy. This is in keeping with the then prevalent ideas, at the time the RBI legislation was enacted, which did not include transparency. In the absence of a clear-cut legislation on the process of setting out monetary objectives, what has evolved is a system of vague and opaque objectives which, quite often, conflict with other arms of overall economic policy. Under the present system, the setting of objectives by the government to the RBI is not made public, and in fact is not even set out in a confidential exchange of written correspondence. The Advisory Group is of the view that there is need for a transparent setting of objectives of monetary policy by the government and if the government finds these objectives as having certain adverse effects it can always alter the objectives, but it should be done in a transparent manner and made public and placed on the Table of the House and the government should seek Parliamentary deliberation of the objectives. This would then reduce the possibility of counterproductive conflict between the government and the RBI.

The present RBI Act sets out, in rather general fashion the responsibilities of RBI regarding monetary policy. The Advisory Group emphasises that the present RBI Act is anachronistic and there should be an early move to amend the RBI Act to give sharper focus to the objectives of monetary policy. Transparency in monetary policy and greater responsibility and accountability for the RBI will be meaningful only if there is legislative amendment of the RBI Act to provide the necessary autonomy to the RBI to fulfil its responsibilities. Monetary policy is only one arm of economic policy and it necessarily has to be consistent with the overall economic policy which in the Constitutional set up is government’s responsibility. In this context the Advisory Group recommends that the objectives of monetary policy should be set out by the government, as part of its overall economic policy package, and the government should be obliged to seek Parliamentary debate on these objectives as also any changes in these objectives thereafter. It is recognised that there could be a differentiation of strategic objectives for the longer-term and the shorter-term and at different times there may be a need to alter the relevant priority of one or other objective. There are merits and demerits in a single objective vis-a-vis multiple objectives but the essence is that the objectives, whatever they be, should be disclosed by the government and be reported to Parliament for consideration; this would make for a clear delineation of government and RBI responsibilities.

The RBI Act had been legislated in the context of tightly regulated and underdeveloped money, securities and exchange markets. The Advisory Group recommends that legislative changes should be considered to facilitate the emergence of an independent and effective monetary policy and ensure that market development can be fostered, unconstrained by legislative infirmities, while at the same time providing for expeditious adverse action by RBI to deal with violations of the regulatory framework.

The Advisory Group is of the view that under the RBI Act, the RBI should be given a clear and explicit mandate and then be held responsible for the use of instruments of monetary policy to achieve those objectives. While delineating the responsibilities of the RBI the Advisory Group is of the view that it would be necessary to provide, through legislative amendments, reasonable security of tenure to the Top Management of RBI. This is essential if the RBI is to be clearly assigned specific responsibilities in the conduct of monetary policy and be accountable for the same to the wider public.

The Finance Minister Shri Yashwant Sinha in his Budget Speech for 2000-01 has said :

"In the fast changing world of modern finance it has become necessary to accord greater operational flexibility to the RBI for conduct of monetary policy and regulation of the financial system. Accordingly, I intend to bring to Parliament proposals for amending the relevant legislation."

The Advisory Group is gratified to note this commitment and urges that early action should be taken on the intention set out in the Budget Speech to amend the relevant legislation to accord greater operational flexibility to the RBI for conduct of monetary policy and regulation of the financial system.