What are immediate tasks for new RBI governor? Experts discuss

Broadly there seems to be four categories of tasks which the new governor will have to look at. One is bringing inflation to 4 perfect. Two, would be keeping the rupee stable, while ensuring liquidity for growth. Three would be cleaning up bank balancesheets  and fourth would be meeting the payments, digital and inclusion revolution.

To discuss how the new RBI governor can possibly tackle these long list of challenges CNBC-TV18’s Latha Venkatesh spoke to industry veterans like Arvind Virmani, who as member of the monetary policy advisory committee has one of the best ringside views of the workings of the Central Bank, another financial market veteran and former chairman SBI, AK Purwar, Head of treasury at Standard Chartered Ananth Narayan along with Managing Director, State bank of India VG Kannan.

Below is the verbatim transcript of their discussion Q: There are four tasks that the governor has put forward and we will try and squeeze in more. But monetary policy, is it going to be a herculean task for the next governor to go to that four percent mark which Rajan is alluding to, do you think that is the biggest challenge especially because now inflation is kind of the best is over. Global commodity prices are catching up as well even domestically food inflation seems to be catching up? Virmani: As the first speaker let me put a little bit of perspective before I come to the specific question. These tasks which you mentioned, the four tasks the emphasis may vary but they are always the task of the Reserve Bank of India (RBI) governor. So, what I would like to start with is to say how the environment is different and it is very important for the new governor to understand that and the global environment is quite different since the global financial crisis. The governor must make an effort. Either he personally understands it or he must get people and advice to understand how different the world is today than it was maybe 10 or 15 years ago and that particularly applies to the global environment, the interactions with the Indian economy and of course the impact of each on the other. Having said that, that actually gives the background. It is my view that these kind of old ways of doing things and sticking to the old verities is not the way to go. Therefore just because for 10 year or 20 years all the central banks have had this target of inflation control - that the way to do it or appraoch is the same. So, the first question is whether and how quickly you want to bring it down to the target. Going down to the four percent target is not going to be difficult despite the recent rise in inflation and because this is due to very seasonal factors. Seasonal meaning in the context of two consecutive droughts, which only happens once in 15 years, clearly I expected right from the beginning that before the monsoon, before the harvest comes in there would be a spike in prices but I am pretty confident that the target of five percent for the end of the year can be achieved. I don't think it is that big or that difficult a target.

Q: There are two possible challenges for the next governor on the inflation front. One is there is an Fiscal Responsibility and Budget Management (FRBM) panel that has been appointed which is now speaking about flexible fiscal target. Now the fiscal dominance of India's monetary policy has been a reality for the last 60 years and that seems to be coming back in the avatar of flexible fiscal targeting. If you are going to have a band which is 3.5 to 4.5 or 3.5 to 4 we may as well perhaps end up with a fisc again dominating a no corporate bond market, nothing else will evolve. Do you think that will be a very big challenge that the new governor will have to face? Virmani: This is an issue but it is difficult to say before one really understands what the panel is thinking and what is doing, but there are two aspects to this issue. One is a theoretical one. When we say flexible, theoretically I would talk about what is called the full employment or in India's case the trend growth because we don't think of a standard Gross domestic product (GDP), we think in terms of growth rate. So, if growth rates fluctuate should there be some flexibility in the target. Theoretically there is a strong case for having a target which loosens when there is a slowdown in growth and vice versa. So, that is the theoretical part of it. The practical problem of course is that the governments are always tempted whenever they are unable to achieve their targets to blame it on growth. So, that challenge of course will have to be met. But if you are interpreting flexible to say just have an arbitrary ban which is unconnected to these aspects which we know and we have thought about it for a long time then I would be against it that would be a political move to make life easy for the government. And I don't think that will be a wise thing. Q: The Monetary Policy Committee (MPC) is a different issue. The monetary policy committee members are going to be appointed for four years and it is a non-extendable term. Now that makes you independent because you can’t get another job or another term over there, as well it is four years, Governor’s are appointed for three years, Deputy Governor’s are appointed for three years. The government will resign or will have to seek re-election before the MPC members seek reappointment or finish their term. Do you think that will be a very big challenge for the Governor because they might be extremely independent of the Governor? Narayan: I think in the overall scheme of things, having an MPC rather than an individual decide monetary policy is far better. Irrespective of how qualified an individual is or how cerebral that person is, they are bound to make idiosyncratic mistakes. Having six people decide instead I think will be far better. I don’t think anybody would disagree with that part. However, just a step back a bit, besides the points that Rajan mentioned, there are a few more big challenges for the next person. First is just filling up the large shoes of Rajan. Imagine performing in a rock concert after Elvis Presley or something. You are coming in and you are going to be compared with somebody who at least internationally has been reckoned as the god amongst central bankers and that is a very tough to act to follow. The second thing which is very important is, as Arvind Virmani was also mentioning, the markets are globally looking very tough at the moment. It is not just China, it is not just commodities, it is not just Brexit, you also have the US elections coming up, you have geopolitics looking pretty queasy. Global growth is not looking good at all. So, while India is definitely in a better space, this is going to be a very volatile time globally. Q: I didn’t put rupee as one of the very big challenges, I just said external management. Do you think the next Governor will have a big problem with the rupee? I thought good reserves, good macros, it is not a given, you can lose it like that? Narayan: You are right. Clearly the domestic factors are looking great. Compared to where Rajan took over where domestics were looking horrible, clearly every metric is looking great. Plus, we have positives in-line of sight. You have a monsoon which is progressing well, you have the possibility of goods and services tax (GST) coming through which will mean positive vibes about India and foreign direct investment (FDI) growing, so, all that no question asked. However, we are operating in a global context which is very uncertain and unfortunately it is throwing us a curve ball almost every other day where something new is coming through. So, it is going to be a challenging time and let us face it, we do have vulnerabilities. If you have an external shock, let us remember the USD 30 billion of foreign institutional investor (FII) investments into debt is against global benchmarks; that is going to be vulnerable to exits and plus you have Foreign Currency Non-Resident (FCNR (B)) maturities coming up. So, there is no shortage of situations where interaction with the external world could mean you require a very astute management of domestic markets which I think is going to be very clear. The last one which I think you made the point and I think it is absolutely true, a lot of eyes will be on the new Governor to ensure that the credibility on some of the factors, MPC formation and overseeing that will be a big new concept. Second thing the whole asset quality review (AQR) exercise being taken to the logical extent and ensuring that there is no dilution of the focus that Rajan had on it, and FRBM as you mentioned. It is again going to be very closely watched. So, the whole credibility of the institution, of the Reserve Bank of India (RBI) which again segues into the point of following Elvis Presley in the rock performance, it is going to be watched very closely. Q: Even as one of the things that probably the Rajan era learnt is that while controlling inflation they had gone the other extent on liquidity and it was getting restored. Are you a little scared that this process might get jacked of restoring liquidity; the new man may have to learn the ropes all over again. Are you afraid that this process of restoring liquidity to money markets may get jacked? Kannan: Let me tell you one thing, whether whoever comes as the Governor, will also be guided by his lieutenants and also the system who would give sufficient information and data. So, it is only the individual’s mind, there has to be a collective discussion on the liquidity front and I am sure they will have a collective decision as to how do we tackle this. I think Rajan has in the past also said that there will be sufficient liquidity and we have seen in the last couple of weeks, in three or four weeks, that the liquidity has been quite adequate. They have to sustain this, even the government has also been helpful in seeing that the expenditures have incurred. However, we need to see how it pans out in September. The 7th pay commission also would be something which will ensure that the money comes into the system. How it pans out post the outflow is how we have to watch and see. Q: As a banker are you worried that the man who started it is not still there to finish the task. It was an accelerated recognition and halfway through there is a change of guard with the non-performing assets (NPA) issue only partly resolved, are you worried? Kannan: From the banker’s point of view, it is business as usual and we feel that whoever comes will be in a position to take forward the steps taken earlier and see the resolution of the stressed assets and that is of course a big challenge not only for the Governor but also for the banking system. Steps to redress the situation, the various steps like Strategic Debt Restructuring (SDR), Sustainable Structuring of Stressed Assets (S4A) have also been given by the RBI. How it pans out, how the bankers are in a position to get new players, the identification of the non-sustainable debt are all something being closely watched. We have started seeing some signs of some companies coming forward and being identified. Let us see, wait and watch and I am quite hopeful that this time around there will be more resolutions. Q: All these instruments that VG Kannan is talking about, the unsustainable debt being hived off and then trying to make the company viable or trying to find new parties, is it working? You are seeing it as an outsider, you have seen a bit of the NBFC space, are assets being reconstructed at all? Purwar: Let us look at the context in which it has happened. See last 10-15 years, the assets have accumulated, bad assets have accumulated. Many of these are in infrastructure sector where last mile issues are there which the present government is some way is trying to address particularly the road sector in a very big way. There are some which because of the global industry issues which has happened and thirdly that there are genuine cases so restructuring is happening. What present Governor has succeeded in very carefully doing is that he has put the issue in such a way that today borrower who has not been truthful it is, is coming to the bank to try to settle the issue, trying to bring out the proposals, trying to bring out the packages so that he can come out with this system. Earlier bankers used to call on him. Today it is somewhat different; he comes to the bank and tries to -- so that kind of change has taken place. However, having said that, we must remember that last 50-70 years we have build a lot of industries, there are a lot of honest people though may expertise in certain critical areas that we have built up, we should work in such a way that these honest and upright people, industry houses, industries particularly in small and medium sector get protected, get restructured and that expertise is not lost to the system. Q: What is your sense, is it that these small and medium enterprises, see you cannot buy perhaps an Essar up, it is difficult but what about the MSME sector, are you seeing enough ARCs or stressed asset funds, special funds? Purwar: Unfortunately no, those are the areas where perhaps a little more amount of work will be required. What is happened that perhaps in these present era, the speed at which the NPAs got converted and resolution of these issues was expected to be done and classification as NPA was taking place, I think that kind of speed required some kind of fine tuning. There a little more time perhaps to some of the genuine cases. If he is dishonest, integrity is a question, do whatever you feel like but where these issues are not there, perhaps some more flexibility in the system is warrant. Q: The final question I wanted to ask you is this financial inclusion and giving loans to SMEs that Rajan refers to, that is actually taken off. Both HDFC Bank and Capital First have bought algorithms which are able to reasonably find out how small enterprises have become credit worthy. Even if you can’t do the leg work of due diligence, the algorithms are able to do due diligence and a reasonable amount of money is going and even the Mudra Bank -- I don’t know how that works so do you think that SMEs are now getting more money than they used to get? Will that be the big challenge for the new Governor to just expand? Purwar: I have a little different take on this. I would put it this way that SME perhaps are not getting that kind of treatment, the issue, the kind of intention which is required. However, what is definitely happening is on the financial inclusion side, a lot of things are happening on the smaller of the things and huge amount of activity is taking place there. In State Bank of India (SBI) we have seen that smaller side, particularly the self group side, any amount of lending has been good credit, has always mostly 99 percent it has come back. It is only in the SME and mid corporate sector, large corporate sector where there have been issues. Q: You will be best placed as being in a cutting edge bank. This whole payment revolution, unified payment interface and payment banks and this big digital revolution will that be a big challenge for the next governor and does that mean that he will have to be younger and a person in service that people above 60 or closer to 70 simply will not be able to manage this challenge, is that the biggest challenge for digitisation. I am not able to manage digitisation in the communication space as well as my junior colleagues can. That is why I am asking you this? Narayan: I was just going to say that it is not just a challenge for the governor, it is a challenge for all of us. Frankly we are all becoming dinosaurs there. Absolutely, the nature of banking is changing. Technology is impacting us in a big positive way. So, just as WhatsApp has taken over Short Message Service (SMSs). Clearly banking, the nature of daily banking is going to change as well. But the starting point for banks to be able to innovate and invest in digitisation and provide better services to clients etc. We still have to fill up the coal of capital in banks and not all of it will come through purely with a comeback of growth. Yes, with growth coming back things like maybe the capital required for growth will be provided for through internal accruals. But remember what we have discovered from out of AQR so far is that the net gross NPAs actually have grown significantly. So, the level of reserves kept aside or provisions kept aside is quite low. 40 percent is quite low. USD 20 billion is required just to bring provisions up to the right levels, plus we have watch lists as your graphic indicated by March 17 the number should will actually go up even further. Plus we have BASIL-III requirements of capital conservation buffer so on and so forth. There is an enormous amount of capital required which needs to kind of irrigate the banks a little more so that they can then spend time and energy and investments into digitisation etc. That is a big challenge for the governor. So, AQR is a big part of the story. Finding the solution to AQR from banking perspective and ensuring capitalisation of banks that is the big challenge. Q: Do you think the next governor will have the advantage of growth at all or do you think that advantage really may not come? Virmani: When we are talking about growth you are talking about corporate growth and that links back to the point I was making that understanding the changed economy because that issue of data etc is not just an issue of data, it is a question of understanding how the economy is functioning and how to deal with it. But on the banking thing let me just give you a global perspective. What we know from many crisis\\' across the world is that it is very important to agree on a compromise or whatever solution and act fast on it. The countries which have come out of this kind of a problem are the ones who decided something, started acting on it as quick as possible and did something, not the ones which kept discussing forever and ever.