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Read our CEO Vineet Jain's take on RBI Governor Raghuram Rajan's Exit...

Why?

The abrupt decision of central bank governor Raghuram Rajan to quit came as he increasingly felt a lack of support from his political bosses Finance Minister Arun Jaitley and Prime Minister Narendra Modi, according to friends and colleagues. A week ago a newspaper reported that a selection panel would consider a field of candidates rather than directly offer the former IMF chief economist an extension to his three-year term, effectively forcing him to reapply for his own job made him feel it would belittle the position of the RBI governor if he had to appear before the committee.

The government might also have silently wanted him to go because of Rajan's celebrity status, at home and abroad, meant he was one of the few people who could publicly criticise the government's policy. Most prominently, just as the government was touting India's status as the fastest growing major economy in the world, Rajan brought up the old phrase, "in the land of the blind, the one-eyed man is king." 

Timing

The timing of this transition is definitely less than desirable. There are near term headwinds to global risk-taking (Brexit vote this week) as well as to rupee in particular (Iran payments over 3 months and FCNR redemption between September – November). It must be remembered that currency fluctuation accounts for a large part of bond market decision making for offshore investors. The current mix of RBI and government policies have been deemed prudent by investors and has helped make the rupee a ‘low beta’ play amongst most emerging markets (EMs). This has improved the attractiveness of Indian financial assets to offshore investors, most particularly bond investors. The current transition perhaps makes the rupee on the margin more susceptible to episodes of global risk off.

Investor Takeaways

India’s captains of industry said they were disappointed at the exit of Reserve Bank of India Governor Raghuram Rajan, adding the country needs a strong leader at the central bank.In the eyes of offshore investors, Indian bonds have enjoyed the benign intersection of prudent RBI and government policies. If the RBI were to transition into a more ‘CPI tolerant’ central bank, then on the margin one pillar supporting lower volatility in both currency and bonds would weaken. This will get most visible during episodes of global risk-off, whereas periods of benign global risk will tend to mask this fact. Also, at some juncture local market participants may start to look forward to extra monetary easing that the new Governor may bring about. Though it would be premature to already align to this view.

Will he be remembered?

Apart from the ‘Rockstar’ image he has acquired, Rajan has done a lot of work to get the jeopardized Indian economy back on track. He will be remembered for the following achievements as the RBI Chief :

  • The major task of the Central Bank is to roll out effective monetary policy so as to keep the inflation under control. Under his regime the rate of inflation fell to around 5%, which is a little above the rate that is considered to be ‘healthy’ by economist for the development of a country. When he assumed office in 2013 the rate of inflation was exorbitantly high at around 11%.
  • The foreign exchange reserves have reached an all time high and stand at $363.23 billion. High amount of foreign exchange reserves are an indication of the fact that the country is prepared to face market shocks such as the devaluation of one or more currencies. It has also been traditionally used to back the country’s domestic currency.
  • Rajan also released on-tap licensing to ease the process of universal bank applications that enable services such as payments via mobile phones. The RBI has also given out Payments Bank Licences to 11 entities, a move that is set to revolutionize the banking sector as well as give a boost to the government's aim of financial inclusion of the majority of the Indian population.
  • He has taken conscious efforts to clean up the bad bank loan mess. Indian banks now have close to Rs 6,00,000 crore bad loans. As banks struggle with record levels of distressed assets, Rajan had set an ambitious March 2017 deadline for them to fully reveal the problem loans and make adequate provisions. This was a very critical action on his part as bad loans threaten to disrupt the economic stability and can also lead huge crises (like the 2008 Lehman Brothers crisis).