RSTV: THE BIG PICTURE- RBI’S SURPLUS FUND
The Reserve Bank of India has decided to transfer 1.76 Lakh crore rupees in dividend and surplus reserve to the govt. This came after the RBI board accepted the recommendations of Bimal Jalan committee on transfer of excess reserve funds to the govt. The total amount to be transfered by RBI to govt includes 1,23,414 crore rupees surplus for the year 2018-19 and 52,637 crore rupees as excess provisions identified according to the revised economic capital framework or ECF. This transfer of record surplus funds from RBI is expected to boost overall revenue for the govt and meet its fiscal deficit target.
What is economic capital framework?
Economic capital framework refers to the risk capital required by the central bank while taking into account different risks. The economic capital framework reflects the capital that an institution requires or needs to hold as a counter against unforeseen risks or events or losses in the future.
Why it needs a fix?
- Existing economic capital framework which governs the RBI’s capital requirements and terms for the transfer of its surplus to the government is based on a conservative assessment of risk by the central bank and that a review of the framework would result in excess capital being freed, which the RBI can then share with the government.
- The government believes that RBI is sitting on much higher reserves than it actually needs to tide over financial emergencies that India may face.
- Some central banks around the world (like US and UK) keep 13% to 14% of their assets as a reserve compared to RBI’s 27% and some (like Russia) more than that.
- Economists in the past have argued for RBI releasing ‘extra’ capital that can be put to productive use by the government. The Malegam Committee estimated the excess (in 2013) at Rs 1.49 lakh crore.
Suggestions of Bimal Jalan committee:
- The panel recommended a clear distinction between the two components of the economic capital of RBI i.e. Realized equity and Revaluation balances.
- Revaluation reserves comprise of periodic marked-to-market unrealized/notional gains/losses in values of foreign currencies and gold, foreign securities and rupee securities, and a contingency fund.
- Realized equity, which is a form of a contingency fund for meeting all risks/losses primarily built up from retained earnings. It is also called the Contingent Risk Buffer (CBR).
- The Jalan committee has given a range of 5.5-6.5% of RBI’s balance sheet for Contingent Risk Buffer.
- Adhering to the recommendations, the RBI has decided to set the CBR level at 5.5% of the balance sheet, while transferring the remaining excess reserves worth ₹52,637 crore to the government.
- If CBR is below the lower bound of requirement, risk provisioning will be made to the extent necessary and only the residual net income (if any) transferred to the Government.
- However keeping CBR at a lower range of 5.5% will reduce RBI’s space to manoeuvre monetary policy.
Every year RBI transfer the surplus to government:
RBI is not a commercial organisation like banks and other companies owned or controlled by the government to pay a dividend to the owner out of the profit generated.
What the RBI does is transfer the surplus excess of income over expenditure to the government.
Under Section 47 of the RBI Act, “after making provision for bad and doubtful debts, depreciation in assets, contributions to staff and superannuation funds and for all other matters for which provision is to be made by or under this Act or which are usually provided for by bankers, the balance of the profits shall be paid to the Central government”.
Why RBI needs excess reserves?
- The RBI needs adequate capital reserves for monetary policy operations, currency fluctuations, possible fall in value of bonds, sterilisation costs related to open-market operations, credit risks arising from the lender of last resort function and other risks from unexpected increase in its expenditure.
- The RBI has maintained the view that it needs to have a stronger balance sheet to deal with a possible crisis and external shocks
Sources for RBI:
A significant part comes from RBI’s operations in financial markets, when
- It intervenes for instance to buy or sell foreign exchange;
- Open Market operations, when it attempts to prevent the rupee from appreciating;
- As income from government securities it holds;
- As returns from its foreign currency assets that are investments in the bonds of foreign central banks or top-rated securities;
- From deposits with other central banks or the Bank for International Settlement or BIS;
- Besides lending to banks for very short tenures and management commission on handling the borrowings of state governments and the central government.
- RBI buys these financial assets against its fixed liabilities such as currency held by the public and deposits issued to commercial banks on which it does not pay interest.
Expenditure for RBI:
The RBI’s expenditure is mainly on printing of currency notes, on staff, besides commission to banks for undertaking transactions on behalf of the government and to primary dealers that include banks for underwriting some of these borrowings.
The central bank’s total costs, which includes expenditure on printing and commissions forms, is only about 1/7th of its total net interest income.
Ways through which the fund can be used prudently:
- The amount could either be used to provide a fiscal stimulus to the economy-which is in the grip of a slowdown-
- It could be used to reduce off-balance sheet borrowings.
- The other option is to use it to meet an expected shortfall in revenue collections.
- In the Union budget, the government had presented an optimistic scenario of raising Rs 4.76 lakh crore in additional resources to meet budget expenses.
- However, since there is a clear slowdown ahead, this revenue target may not be met, in which case the surplus from the RBI would be used to bridge the shortfall.
- Normally, the money is transferred to the Consolidated Fund of India from which salaries and pensions to government employees are paid and interest payments done, besides spending on government programmes.
- The large pay-out can help the government cut back on planned borrowings and keep interest rates relatively low.
- If the government manages to meet its revenue targets, the windfall gain can lead to a lower fiscal deficit.
- The other option is to earmark these funds for public spending or specific projects, which could lead to a revival in demand in certain sectors and boost economic activity.
- If the tax revenue growth picks up, then the government can use the additional money to clear the dues of the Food Corporation of India and fertiliser companies to minimise spillover of deficits to the next year.
- The additional funds can also be used to spend on much-needed capital expenditure.
Views of Economists:
- Some economists have welcomed the move as it will help the government counter the shortfall in revenue and tax collection.
- Since inflationary pressure is low, economists believe that the move will not have a negative impact in the long run.
- Another group of economists which include the likes of Raghuram Rajan and former RBI governor Urjit Patel said earlier that the move could put RBI in a vulnerable position apart from diminishing its autonomy.
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