GS-3, Uncategorized

RBI transfer ‘surplus’ to government

Context

  • Reserve Bank of India (RBI) Board has approved a transfer of Rs 1,76,051 crore to the government, including a surplus or dividend of Rs 1,23,414 crore, and a one-time transfer of excess provisions amounting to Rs 52,637 crore.

Bimal Jalan Committee

  • The outflow from the RBI’s reserves was limited to this amount only because the Bimal Jalan Committee, appointed to recommend the economic capital framework for the RBI, decided to keep a major part of the reserves locked up and out of the reach of the government while opening up the remainder with strict stipulations.
  • The Committee has recommended, and rightly so, that the Currency and Gold Revaluation Reserve Account (₹6.91 lakh crore as of June 30, 2018), at least half of which was eyed by the government, represents unrealised gains and hence is not distributable to the government.
  • In the case of the Contingency Reserve (built out of retained earnings), which was ₹2.32 lakh crore as of the same date, the committee said that it should be maintained within a band of 6.5-5.5% of total assets.
  • It left it to the RBI board to decide the precise percentage it was comfortable within this band and transfer the excess to the government. As it happened, the board, in its meeting, decided to peg this ratio at 5.5%thus enabling it to transfer a sum of ₹52,637 crore to the government immediately
  • The committee should also be complimented for clearly specifying that the revaluation reserve cannot be used to bridge shortfalls in other reserves.

The RBI transfers its surplus to the government every year. So what is special about the pay out this time?

  • Yes, the RBI does transfer its surplus annually to the government, the owner of the institution, after making adequate provisions for contingencies or potential losses. The profit that is distributed has varied, averaging over Rs 50,000 crore over the last few years.
  • The RBI Board accepted the recommendations of a committee headed by former Governor Bimal Jalan on transfer of excess capital. Based on the panel’s report, the Central Board decided to transfer a surplus of Rs 1.23 lakh crore and Rs 52,637 crore of excess provisions made over the years
  • This marks the first time the RBI will be paying out such a huge amount, a one-off transfer.

How does a central bank like the RBI make profits?

  • intervenes for instance to buy or sell foreign exchange; Open Market operations, when it attempts to prevent the rupee from appreciating; as income from government securities it holds; as returns from its foreign currency assets that are investments in the bonds of foreign central banks or top-rated securities; from deposits with other central banks or the Bank for International Settlement or BIS; besides lending to banks for very short tenures and management commission on handling the borrowings of state governments and the central government.
  • The RBI is a “full service” central bank— not only is it mandated to keep inflation or prices in check, it is also supposed to manage the borrowings of the Government of India and of state governments; supervise or regulate banks and non-banking finance companies; and manage the currency and payment systems.
  • Its expenditure is mainly on the printing of currency notes and on staff, besides the commission it gives to banks for undertaking transactions on behalf of the government across the country, and to primary dealers, including banks, for underwriting some of these borrowings.

Why are these called transfers to the government, rather than dividends?

  • That is because the RBI is not a commercial organisation like banks and other companies owned or controlled by the government to pay a dividend to the owner out of the profit generated. Though it was promoted as a private shareholders’ bank in 1935 with a paid-up capital of Rs 5 crore, the government nationalised it in January 1949making the sovereign the “owner”.
  • What the RBI does is transfer the surplus — excess of income over expenditure —to the government.
  • Under Section 47 of the RBI Act, “after making provision for bad and doubtful debts, depreciation in assets, contributions to staff and superannuation funds and for all other matters for which provision is to be made by or under this Act or which are usually provided for by bankers, the balance of the profits shall be paid to the Central government”.
  • This is done in early August by the Central Board.

Is it right for the Government to request RBI to share its profits?

  • In principle, it could be argued that the government as sovereign owns the RBI and hence there is nothing wrong if it decides to tap the central bank’s reserves.
  • Yet, that it actually chose to do so is unfortunate because these reserves represent inter-generational equity built up over several years by the RBI by squirrelling away a part of its annual surplus.
  • It is morally unacceptable that any one government can swallow even a part of such funds to help meet its expenditure in a particular year.
  • The reserves, as the Jalan Committee has pointed out, represent the country’s savings for a ‘rainy day’, which is a monetary or financial crisis.

How do other central banks manage the transfer of surplus?

  • Like in India, central banks in both the UK and US decide after consultations with the government.
  • But in Japan, it is the government that decides.

What can the government do with this huge surplus?

  • Normally, the money is transferred to the Consolidated Fund of India from which salaries and pensions to government employees are paid and interest payments done, besides spending on government programmes.
  • The large payout can help the government cut back on planned borrowings and keep interest rates relatively low.
  • Besides, it will provide space for private companies to raise money from markets.
  • And if it manages to meet its revenue targets, the windfall gain can lead to a lower fiscal deficit.
  • The other option is to earmark these funds for public spending or specific projects, which could lead to a revival in demand in certain sectors and boost economic activity.

Why do central banks hold back on transferring large amounts?

  • Especially after the global financial crisis when central banks had to resort to unconventional means to revive their economies, the approach has been to build adequate buffers in the form of higher capital, reserves and other funds as a potential insurance against future risks or losses.
  • A higher buffer enhances the credibility of a central bank during a crisis and helps avoid approaching the government for fresh capital and thus maintain financial autonomy.

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