Bank of India Forex - Should Reserve bank of India transfer Bond, Forex Market Regulation to SEBI?
The Raghuram Rajan and Percy Mistry reports had recommended that all markets should be regulated by Securities and Exchange Board of India (SEBI) including the government bond and the forex markets. RBI governor recently disagreed saying that since banks are the sole players or the major markets, it makes sense for RBI to regulate them. Experts like Dr Shankar Acharya, Member of Board of Governors, ICRIER and Former Economic Advisor to Finance Ministry and Dr S Narayan, Head of Research, Institute of South Asian Studies, National University of Singapore and also Former Financial Secretary discuss this.
Here is a verbatim transcript of an exclusive interview with Dr Shankar Acharya and Dr S Narayan on CNBC-TV18.
Q: All over the world the governments are relooking at the way they regulate the markets. We have these two reports arguing their case. Would it be a good idea to use this opportunity to review market regulation in India and transfer the regulation of bond and forex markets to Sebi?
Narayanan: I think I would start with a premise that these two reports – I would like to question the legitimacy of these reports because in both these reports one was commissioned by the Planning Commission and one was outside the Finance Ministry and neither the RBI nor the finance ministry nor Sebi participated in these reports. So we have two outside reports from people who have very little participation or intimate knowledge of the RBI and Sebi functioning making some recommendations. Then if you look at what the RBI governor has recently said, I think what he is essentially trying to say is that banks occupy nearly 85% of the total market space in terms interbank trading, in terms of bond trading etc and it is very important for the RBI to monitor and supervise this trading. The final question is that this system has held up extremely well for the last 60 years so why do we want to change this. So I am fully with the RBI governor in saying that there is neither a need nor the time to make the shift from the RBI to Sebi.
Q: Simply because the report has been authored by people who perhaps have not had a stint at RBI or at Finance Ministry or perhaps did not have enough participation of these bodies when they were preparing their report may not be reason enough to jettison it. Let us look at only the argument itself. Would markets be better regulated if they are with the Sebi? Do you see any benefit in it at the outset?
Acharya: First the point that Dr Narayanan has made is not in my view and is completely besides the point as you are suggesting. My experience in government is that for reports to really be influential on policy in a reasonably short frame of time, it is much better if you in a sense give ownership to the main institutions of government by having them represented on such committees. I think I had made this point in writing vis-à-vis the Rajan report that as Dr Narayanan also pointed out that there is nobody from the ministry of finance, there is nobody from the RBI senior level who are on this committee. So I don’t think it is an irrelevant point but that said one should not be defensive, I agree with you, one should take such reports on the merits of the argument. On the point that you are raising, I think I agree with Dr Narayanan that that argument or that point – clubbing it all with Sebi that particular recommendation has no merit whatsoever. Aside from the reasons that have already pointed out, I think the key point which used to be made by Dr Reddy, Former RBI Governor, and now made by Dr Subbarao, RBI Governor, is that in today’s world we have to worry enormously about financial stability. That is why the Central Bank and the government for that matter. In being worried about financial stability, you have to therefore worry about key macroeconomic variables such as the exchange rate, such as the interest rate. When you think about those variables, you immediately know which is the government regulatory institution most closely associated or likely to be associated? Obviously it is the Central Bank and not Sebi. If we are charging RBI with enormous responsibility on financial stability then they must clearly have a big role in regulation the banks and a big role in regulating the markets in which the banks are major players and what are those markets? They are the markets for foreign exchange, the market for government securities, the markets for credit. So I think it is a sort of slam-dunk case in my view.
Q: I think I have to play the devil’s advocate since both experts oppose the proposal- Surely there are many countries where bond and forex markets are regulated by the securities regulator even though banks come under the Central Bank. Even in our country bank invest in shares but the share market itself is regulated by Sebi. Isn’t it perfectly possible to keep banking regulation with RBI and bond and forex regulation with Sebi? The RBI has been seen very slow in developing markets like the corporate bond markets. While Sebi is believed to be proactive as a better record – what are your thoughts on this transfer?
Narayan: I think I would like to take forward Dr Acharya’s thoughts and I completely agree with him. The first thought is that the responsibility of RBI today is financial stability particularly when we are running a huge fiscal deficit, when we have to borrow substantially from the market in order to keep the budget fully funded and it is very important that the Reserve Bank calibrates not just the Central Government’s borrowing but the State Government’s borrowing in a manner that it does not suck out all the liquidity from the market and affects private sector borrowing. In order to make these bonds therefore behave in a manner which would not be market destabilizing, it’s very important that the Reserve bank of India actually controls the flow, the transactions, and the entire bond market in these government bonds and therefore it comes into a regulatory role there straight away. Secondly, the point about banks having a small percentage of exposure in the equity market you would realize that the Reserve Bank has fairly strict guidelines for this of 5% and there also its monitoring the exposure of 5% fairly carefully. So again the regulatory responsibility is back with the RBI. So if you are again looking at financial stability I think we would like to leave the matters where they are, with the RBI which has been doing an extremely credible job in the last few years.
Q: I take Dr Acharya’s point that the RBI’s ability to intervene in the forex markets, the debt markets as well as manage banks for prudential and the procyclicality or lean against the wind, a complex of these powers have certainly stood the country in good state, I take that point but technically the RBI can intervene in the forex markets, can intervene in the G-Sec market even if those markets were regulated by Sebi, isn’t it?
Narayanan: I think here you are looking at a kind of a cross regulatory functions and cross governance functions, which is a bit of a realm of the unknown. We do not know how RBI regulating Sebi actions and Sebi regulating RBI actions because here we are talking of people and administration. I don’t think how it will play out.
Q: I am referring to intervention even if the markets were regulated by Sebi, Fx as well as G-Secs, RBI could still intervene with its forex purchases or sales.
Narayanan: So if RBI intervenes in Sebi activities in the foreign exchange market on a particular day in order to control certain volatility in the foreign exchange, in a way really it is RBI regulating Sebi’s activities. So I don’t know how this will work out and I don’t think in India particularly in administration we have a strong case for one regulator looking at another operator and regulating its activities. I think it is an absolute no-no. Just to get back to an earlier point, being an independent director on the board I think it is neither here – we saw in Satyam independent directors didn’t do very much so Sebi by and large functions quite independently. It is a regulator.
