Book Review
Raghuram Rajan's
Rohit Sharma
Roll No-122
Introduction
Raghuram Rajan’s book I Do What I Do is a collection of talks, lectures and papers,
some of which have been in the public domain for a while. Between these articles, the
former governor of the Reserve Bank of India covers much territory.
Dr Raghuram G Rajan needs no introduction. Apart from being the ‘Rockstar’ governor
of RBI from 2013-16, he can boast of exceptionally illustrious academics, being the
Chief Economist at IMF, a professor at the University of Chicago and recently said to be
nominated for the Nobel Prize in Economics.
Raghuram G Rajan created more news as governor of the Reserve Bank of India than
his predecessors.
“I was asked if I was a dove like [Janet] Yellen or a Hawk like [Paul] Volker. I was
getting a little tired of these bird analogies as well as being compared with all these
other people. And so I started off laughingly, James Bondish: My name is Raghuram
Rajan and I do what I do.”
Just a year after his term as Governor of the Reserve Bank of India came to an end,
Raghuram Rajan’s book “I do what I do” which is a collection of his talks, lectures, and
commentaries conveying what it was like to be as the head of the central bank was
published. He confirmed during his tenure his reputation of a first class economist and
banker and one who articulated his views both in private and public in a bold and
convincing manner during his short stint as Governor of the Reserve Bank of India.
Setting Up: RBI
The Indian economy was in dire straits when he arrived on the scene. The rupee was in
free fall, inflation was high and mounting. The current account deficit had shot up and
importantly India’s foreign exchange reserves were frightfully falling. Many attempts to
reign in an economy in serious trouble had failed. And more problems were in store. A
full-blown crisis was expected by keen market watchers. Suddenly, a strong economy
had become one of the world’s five fragile economies.
Stepped in Raghuram Rajan. He immediately went all out to bring the confidence back
into the market. Besides very successful short term actions, he outlined a long term plan
for growth and stability. He emphasized the strength of India’s financial institutions and
exhibited his mastery over the problems to take the reforms already instituted
successfully forward. Whether it was unemployment, inflation or bad loans he took all of
them head on.
The Five Pillars of RBI’s Financial Sector Policies
1. Clarifying and strengthening the monetary policy framework.
2. Strengthening banking structure through new entry, branch expansion, encouraging
new varieties of banks, and moving foreign banks into better regulated organizational
forms.
3. Broadening and deepening financial markets and increasing their liquidity and
resilience so that they can help allocate and absorb the risks entailed in financing
India’s growth.
4. Expanding access to finance to small and medium enterprises, the unorganized
sector, the poor, and remote and underserved areas of the country through technology,
new business practices, and new organizational structures; that is, financial inclusion.
5. Improving the system’s ability to deal with corporate distress and financial institution
distress by strengthening real and financial restructuring as well as debt recovery.
Dosanomics
The focus turned towards changing our economy from being perceived as ‘the fragile
five’ to striving towards a ‘developed’ status. The Dosanomics analogy reinstates the
importance of targeting the CPI instead of the WPI, as a means of barometer for
gauging the real impact of inflation to curb the spiralling prices.
Banking Sector
The importance of a healthy competition for a level playing field is further emphasised to
face the challenges amongst the PSU banks and from the private banks. Introducing
and embracing technology as a pillar of strategy takes importance from a global
standpoint. He further discusses the importance of Mobile Banking, need for Payments
bank, the introduction of UPI and AADHAR enabled interface as a medium of payment.
There is further discussion about the PM Jan Dhan Yojna and the Mudra Scheme (small
loans) and the need for Udyog Aadhar Numbers for SMEs.
Strengthening Debt Market
Post the taper tantrums experienced by our economy, the importance of Debt markets
find a special mention. Legislating the Debt markets for a transparent functioning brings
about discussions on the New Bankruptcy Code, the newly introduced SAEFAESI, the
role of DRT with an intention to improve liquidity in the debt markets via active
participation. The need for strengthening consumer protection finds a special mention
by introducing a Charter of Consumer Rights.
NPAs (Non performing Assets) and bad loans had become a major issue. Raghuram
Rajan showed exemplary clarity in dealing with the ‘bad-loans’ problem. He emphasised
the importance of “early recognition of distress and fair treatment of lenders and
borrowers.” In his opinion Central Bank’s policy must be tuned to “help those with
difficulty while being firm with those trying to milk the system.” In this process, he dwells
on the relationship with the bureaucracy and its attempts to clip RBI’s wings. He warned
against reckless lending and he launched during the end of his tenure in September
2016, the Asset Quality Review in order to compel banks to square their books of
accounts.
PSUs have long been riddled by NPAs. Loan distress has had a substantial impact on
the banking industry. This speech talks about the beleaguered PSUs and their strife
with the large borrowers and bad debts. The measures for identifying bad fundamentals
and introducing a loan database, bringing about a strategic debt restructuring to
displace errant promoters by converting debt to equity, introducing Asset Quality
Controlling inflation
Rajan’s greater cause, however, is the control of inflation. It is also the topic on which
he is least original. Though he is not beyond taking the occasional swipe at the
“Keynesian economist” he makes light of his own allegiance to the work of Milton
Friedman, which should leave him a “new classical macroeconomist.”
First, there is some scare-mongering. We are told that high inflation “feeds on itself” and
transported to the experience of hyperinflation in the Weimar Republic [the name used
for the republic that governed Germany from 1919 to 1933]. Taking this route, however,
is akin to using the experience of the Great Recession to recommend the permanent
nationalisation of banking in market economies. Then we are treated by the author to
Friedman’s interpretation of the observed positive relation between inflation and
unemployment known as the Phillips Curve. The interpretation is that unemployment
falls below the ‘natural rate’ only because workers do not anticipate inflation. Now the
task of the central bank is to maintain stable inflation so that workers can go back to the
level of employment they desire. This account begs the question of involuntary
unemployment, a situation in which workers are willing to work at the current money
wage but cannot find employment.
Secondly, it treats the inflation rate — allegedly picked by mischievous politicians — as
independent of growth rather than being generated along with it.
Finally, there is the age-old argument of how high inflation is variable and therefore
leaves producers unable to distinguish between changes in the relative of their product
and the general price level. In reality, one would have thought, there is no reason to fear
this possibility as producers need go only so far as the excellent website of the RBI to
discover the current inflation rate!
Financial inclusion
Financial inclusion is one of Raghuram Rajan’s pet subjects. It needs a revolution. With
over 900 million mobile phones, there is a huge opportunity for mobile banking. And
technology with its capacity to reduce transaction costs can greatly help in large volume
low-ticket transaction which is at the centre of financial inclusion..“ Despite the high
return from the delivery of credit to the poor, and despite much of our financial inclusion
efforts focused on credit, we still reach too few of the target population. So there is
much more to be achieved”
Fukuyama’s Three Pillars
The next speech delves into a few economics principles like Fukuyama’s Three Pillars
of Liberal Democratic state which eschews the importance of a presence of free market
economy by introducing strong governance, the rule of law and democratic
accountability, with examples of economies existing in Germany, China and Western
Europe. The ‘Make in India’ initiative finds mention of the current government’s policy to
boost domestic demand and growth.
A special mention for his speech on Tolerance to the IIT Delhi students finds importance
as it was widely misinterpreted and construed as an act towards the ‘Intolerance’
movement against the ruling government. A closer perusal leads to the conclusion how
tolerance and debate can foster free competition and encourage free exchange of
ideas. A reference to misrepresentation on the Social media finds mention with respect
to distortion of facts and how the intent should matter over the words.
A speech covering international issues with mentions of Federal Bank rate policies,
focus on unconventional monetary policies like quantitative easing, troubled assets
relief programs, decoupling theories make itan interesting read.
As a beginning Rajan cites Francis Fukuyama on the three pillars needed to foster
political freedoms and economic success: a strong government, rule of law and
democratic accountability. Rajan then goes on to add another pillar to Fukuyama’s
above three which is a ‘free market’.
Beginning with ‘strong government’ I gather that Rajan actually means a ‘strong state’
from this statement: “a strong government is also one that provides an effective and fair
administration through clean, motivated, and competent administrators who can deliver
good governance.”
To elaborate on the difference, a government is the political administration of a country
or state. A state is the geographically demarcated entity that has a distinct fiscal system,
constitution, and is sovereign and independent from other states, as recognised by
them. It is the space where a government can exercise its powers through policy
changes/formulations. A government composed of a coalition of parties — as in
Germany today — could be weak since a coalition usually has political disagreements
but that in no way impinges upon the strength of the state. India has had a succession
of strong governments (Indira Gandhi’s, AB Vajpayee’s and UPA No 2) but the state
has progressively weakened, as evidenced in the administrative lacunae and failure to
implement the law impartially. People with power have found it easy to circumvent the
law though, nominally, all are equal before it.
Fukuyama’s second pillar, ‘rule of law’ is culturally bound and provides a basic stable
code of conduct that should not be violated by either government or the citizenry. The
state’s actions are constrained by a widely understood code of moral and righteous
behaviour, enforced by religious, cultural, or judicial authority and largely bound by
religious beliefs and social conventions; the notion of dharma, for instance, could
broadly be regarded as the traditional code by with righteous behaviour is judged in
India. The third pillar, ‘democratic accountability’, means that the government has to be
popularly accepted, the people having the right to throw out unpopular, corrupt or
incompetent leaders.
Before going on to look at how Fukuyama’s three pillars translate in the Indian context it
is pertinent to look at the fourth pillar erected by Rajan which pertains to the free
market. In elaborating upon it Rajan asks why, since unlike democracy which treats
individuals equally, each one having a vote, and the free market (contrarily) empowers
consumers based on how much money they have and their wherewithal, the average
voter in a democracy does not vote to dispossess the rich and powerful. The answer
offered is that the voter sees the rich as having come out of a transparent market and
their wealth as owing to they being better managers; if (sometimes) the property rights
of the rich do not get widespread support in emerging markets it is because they are
seen as having acquired their wealth dishonestly.
The overall effectiveness of the four pillars in India rests on India being a democracy —
Rajan affirms that India took to democracy as a ‘duck takes to water’ and compares the
country to others where democracy has not been as successful. But here is what he
says about the meaning of democracy: “A vibrant, accountable democracy does not
only imply that people cast their vote freely every five years. It requires the full mix of a
raucous investigative press, public debate uninhibited by political correctness, many
political parties representing varied constituencies, and a variety of non-governmental
organisations organising and representing interests.”
RBI Matters
• The book carries in lot of support for the Current Government work on financial
inclusion “Make In India” and also emphasizes on importance of “Make In
India”.
• Rajan Sir tries to cover various issues rights from the reforms related to inflation,
banking sector, debt markets, Financial inclusion, Resolution of Distress, Advice
on macro-economy some broad concepts like Democracy & Rule of law
Tolerance and Respect.
• He champions the spread of banking emphasising the importance of “innovation
in reaching out to the underserved customer.” We find a clear-sightedness about
dealing with the ‘bad-loans’ problem.
Global Financial Crisis
• Financial markets have expanded and deepened, and the typical transaction
involves more players and is carried out at greater arm’s length.
• In global financial crisis Rajan credited to predict with accurracy much prior to
actual crisis.
• While these changes in the financial landscape have been termed
‘disintermediation’ because they involve moving away from traditional bank
centred ties, the term is a misnomer.
• The managers of these financial institutions, whom I shall call ‘investment
managers’, have displaced banks and ‘reintermediated’ themselves between
individuals and markets.
• This account begs the question of involuntary unemployment, a situation in which
workers are willing to work at the current money wage but cannot find
employment.
• In the new, deregulated, competitive environment, investment managers can’t be
provided the same staid incentives as bank managers of yore. Because they
need the incentive to search for good investments, their compensation has to be
sensitive to investment returns, especially returns relative to their competitors.
• Therefore, the incentive structure for investment managers today differs from the
incentive structure for bank managers of the past in two important ways.
The True Lessons of the Great Recession:
• According to the conventional interpretation of the global economic recession,
growth has ground to a halt in the West because demand has collapsed, a
casualty of the massive amount of debt accumulated before the crisis.
• Households and countries are not spending because they can’t borrow the funds
to do so, and the best way to revive growth, the argument goes, is to find ways to
get the money flowing again.
• To understand what will, and won’t, work to restore sustainable growth, it helps to
consider a thumbnail sketch of the economic history of the past sixty years.
• Accordingly, starting in the early 1990s, U.S. leaders encouraged the financial
sector to lend more to households, especially lower-middle class ones. In 1992,
Congress passed the Federal Housing Enterprises Financial Safety and
Soundness Act, partly to gain more control over Fannie Mae and Freddie Mac,
the giant private mortgage agencies, and partly to promote affordable
homeownership for low-income groups.
• Such policies helped money flow to lower-middle-class households and raised
their spending – so much so that consumption inequality rose much less than
income inequality in the years before the crisis.
• This Policies were politically popular.
