Six years and two months after news that made us stop and check if we heard it right, of a sudden ban on currency notes of high-value, this daring bit of ‘shock therapy’ for a cleaner economy refuses to diminish in India’s rear-view mirror. Views of its value vary vastly, usually by the weights assigned to what it did or did not do, but also politically, given its variable impact. Demonetization, on balance, was an error, though less drastic than made out by critics. As a move, it was also legitimate, according to the 4:1 majority ruling of India’s Supreme Court that has placed it back in the limelight. The judiciary found it neither too harsh an action taken in proportion to its goals, nor in violation of any statute. As the Centre and Reserve Bank of India (RBI) had discussed the idea over six months, the proposal’s first mover was held irrelevant. The sole vote of dissent on the five-judge bench, however, found the process invalid for being undertaken at the Centre’s initiation and devoid of “independent application of mind” by RBI. In the context of an overt role played by politics, in contrast with economics, this opinion is backed by readings of RBI-Centre interaction that suggest the latter was left with no choice. What’s done is done, but clarity on the purpose and limits of central bank freedom has surely risen in relevance.
Any debate on such a balance of power can be framed as one about technocracy versus democracy, with elected representatives in the latter’s corner. Economic policy run by technocrats can let people down, just as the political control of money could be clumsy, myopic, or both. The global record would argue that the basic settings of an economy—like its means of exchange, the value of this unit and real cost of credit extended in it—are best kept safely away from sovereign authority. Many central banks began as private lenders to governments, which had to stay credibly solvent for the IOU notes of these banks to serve as publicly trusted cash. Although state ownership of the money-issuer is a superior model, for its public accountability, one that can be bullied by its principal debtor could jeopardize macro stability. Central banks must always be assured of the space they need for their job. Fierce exercises of freedom by our lenders of last resort, however, could tip the scales of risk the other way. Liaquat Ahamed’s 2009 book Lords of Finance: The Bankers Who Broke the World captured the haughty roles played by four central bank heads—of the US, UK, France and Germany—in policy bungles that led up to the Great Depression. As this pre-World War II tragedy of errors revealed, anybody’s overlordship of finance can pose perils. Autonomy must not turn into autocracy.
In RBI’s case, our best bet would be to empower it further. The note ban of 2016 and double exit of liberty-minded governors around that shock had been a setback for RBI’s perceived power over money. The two had led a formal shift that year to inflation targeting, whose efficacy requires an RBI grip on interest rates. Today, as Mint Street tries to stare down its first big challenge of price stability since RBI was handed an official mandate by New Delhi for it, its freedom needs to come good. Gains in credibility would also ease its expectation management, so that success on capping India’s cost of living can feed on itself. Our central bank also has a technology disruption to tackle, other lenders to watch, systemic risks to track and a significant new enabler in its e-rupee to run. It clearly needs a lot of space for all this.
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