Of course, the US has always taken its central bankers seriously, at least since Paul Volcker famously snubbed out persistent inflation in the early 1980s. His successor, Alan Greenspan, who served as the head of the Federal Reserve for almost two decades until 2006, was often described as “God” for having shepherded the country through an unbroken two-decade period of remarkable prosperity with no inflation and no crisis, using just that one tool at his disposal — interest rates. By making minor adjustments in the price of money, Greenspan was seemingly able to contain both unemployment and inflation to levels that he desired. In his two decades in office, if not God, he was certainly a round-the-year Santa Claus delivering the goodies without break until of course some of his subprime benefactors (his generosity may have been excessive) began to default on their home loans in 2007, after he had left office. What happened next is well known and we are still feeling the effects, even though this Christmas season, in economic terms, has been a lot merrier than last year’s.
The fall of Greenspan from the high pedestal of public acclaim considerably lowered the stock of the central banker — Bernanke was met with doubt from the start. Until in a moment of rare irony certain Y.V. Reddy arrived in the US on an academic tour of universities and think tanks in the spring of 2009, many months after he had left office as governor of the RBI. He was singled out by many prominent mainstream US newspapers as the man who had saved India from the worst of the financial crisis because of his insistence on strong regulatory oversight on banking and finance. Central bankers it seemed could after all be trusted.
Of course, as things began to stabilise and slowly recover in the US, Greenspan’s successor, Bernanke, began acquiring a saintly reputation. Judged by Greenspan’s once high standards, Bernanke’s credentials to be feted seem rather limited — unemployment in the US is very high at 10 per cent, growth is barely positive, and confidence remains low. But conjuncture matters and the average American may quite rightly feel that Bernanke’s near zero interest rate policy, combined with massive rescues of failing financial institutions, has helped contain the crisis to a bearable level — imagine, as Time points out, if unemployment was 25 per cent.
There are obviously many risks with the strategy Bernanke has followed. He is already being criticised for creating massive asset price bubbles fuelled by cheap dollar finance. At some point these may burst and cause another dive. But for now, the US has got back that most precious and intangible of commodities — confidence. And he has wide public support in what he doing.
Indian central bankers (before and after Reddy) have never attracted the kind of star value that US central bankers have, never mind Reddy’s brief moment of stardom in another country that later translated into some limited acclaim even at home. And that is largely because they have remained largely disconnected from the daily life of the average Indian. Reddy, in a brief moment of connectivity hiked interest rates sharply in the summer of 2008 in response to an international commodity price inflation, and ended up choking the economy before the crisis came. But that’s not the only reason he never became a star in India.
The excessive conservatism of the Indian central banking establishment — the RBI has a huge bureaucracy — has meant that India is still grossly under banked. Far too many people struggled to access a bank account. Because the financial system is so under-developed there is a massive disconnect between the interest rates the RBI sets and the interest rates we get charged as borrowers. We went through a large period of the crisis witnessing the peculiar spectacle of D. Subbarao cutting rates repeatedly (even if not sufficiently) with hardly any corresponding reduction in the rates charged to business and consumers. Consider how difficult it is to get a substantial home loan at a reasonable mortgage rate for a middle class household, even in the midst of an exceptional stimulus period. In short, unlike in the US, our central bankers haven’t delivered financial inclusion and cheaper finance to the aam aadmi, stimulus or not. Safety of the system means little if hundreds of millions have no access to it.
Instead of focusing on the objective of financing the masses, RBI governors tend to get caught up in trying to manage too many conflicting objectives at one time. Most problematic than this is the way monetary policy is managed. The one law of economics which works like a law of nature is the law of the impossible trinity — it simply isn’t possible to have free inflow of foreign capital, an independent monetary policy and a managed exchange rate all at the same time. Reddy tried to do all three and failed, to the great cost of the economy. Subbarao has professed that he too will try to manage all three together, and he too will fail.
Instead of constantly defending their own turf, and trying to manage the impossible, we need our central bank chiefs to don the Santa Claus gear more often — focus on the interests of the aam aadmi. Of course, we know RBI will hike rates soon, but by pushing more financial sector reform in 2010, Governor Subbarao can still deliver cheaper finance to all of us, and leave us feeling a lot better off next Christmas.
The writer is a senior editor at ‘The Financial Express’