Why Urjit Patel took on the government, and lost

Section 7 of the RBI Act says that the government can issue directions to the central bank in consultation with the governor. While RBI is an independent entity, the government can give directions to the central bank in emergency circumstances if there is an issue pertaining to public interest.

This section has never been invoked in the history of the RBI. However, in the end of October, reports suggested that the government was planning to invoke this section. This was seen as a move to strike down on the autonomy of the Reserve Bank, which was followed by murmurs of the governor stepping down in protest.

Credit to MSMEs

The government was of the view that credit to the small and medium enterprises had been curtailed due to the strict lending norms of RBI. In a marathon board meeting on November 19, the RBI board said the banking regulator should consider a scheme for the restructuring of stressed standard assets of MSME borrowers with aggregate credit facilities of up to Rs 25 crore, subject to conditions of ensuring financial stability. While the Reserve Bank agreed to this norm, Fitch Ratings said that this was a step backwards.

Prompt Corrective Action

A total of 11 public-sector banks are under the Prompt Corrective Action (PCA) framework of the RBI. Those under PCA face several restrictions including restrictions on non-core activities and lending. The government and RBI were unable to arrive at a consensus on relaxing these PCA rules for loss-making banks. RBI was asked to make the rules flexible so as to ensure easier availability of credit for these banks.

In the RBI board meeting, with regard to banks under PCA, it was decided the matter will be examined by the Board for Financial Supervision (BFS) of RBI. Governor Urjit Patel is believed to have said the bank should not send the wrong message by watering down rules.

Dividend policy of RBI

One of the most serious differences between the government and the RBI on the central bank holding a higher amount of reserves. The government wanted RBI to transfer a higher amount of capital as dividend so that it could be used for activities like recapitalisation of ailing banks.

The RBI Board in its meeting on November 19 decided to constitute an expert committee to examine the ECF, the membership and terms of reference of which will be jointly determined by the government and the RBI.

Independent Payments Regulator

The government has proposed setting up of a payments regulator outside the RBI. Currently, the Reserve Bank is the apex regulator for all payments systems. RBI wanted this body to be an internal part of the central bank and is also said to have submitted a dissent note against the proposal. This body will look into all digital payments and devise rules for the companies operating in this space. If set up as an independent body, there could be a conflict in the regulatory oversight between this regulator and the central bank.

Sources also said that while the November 19 board meeting was said to have ended on 'cordial terms', the RBI governor had expressed his strong views on all the above matters and had also voiced displeasure on the events of the past several weeks.

Why Patel lost

While commentators had warned that any intrusion by the government into the RBI's territory would be harmful for financial markets, the writing was on the wall -- any battle between the governor and the government will be won by only one party: the latter.

For, this is the not the first instance the government had forced the governor to either toe the line, or resign.

The last RBI governor to resign was RN Malhotra in 1990 who had a tiff with the then FM Yashwant Sinha.