Current slowdown may not be a short soft patch, says former RBI governor YV Reddy

The prevailing economic slowdown in the country might not be a short 'soft patch' and could be attributed to a combination of structural and cyclical factors, the Reserve Bank of India's former governor YV Reddy said.  While stating that it is difficult to diagnose the nature of India’s economic slump, the RBI, in its 2018-19 annual report, said that it could be a soft patch mutating into a cyclical downturn.

Reddy voiced his views on the current downturn and various topical issues during a conversation with SBI Chairman Rajnish Kumar at the Sixth SBI Banking and Economics Conclave. He also expressed his opinion on issues such as PSU bank merger, optimal capital for RBI and trade war.

When asked how the global headwinds and trade war between the US and China would impact India, Reddy said: “My own feeling is that the trade war is only the tip of the iceberg and there are more fundamental issues at stake.”

The senior economist pointed out that although the global central banks generally keep their reserves in various reserve currencies, when the confidence in all these reserve currencies wanes, they buy gold. Most of the central banks in the world are now purchasing gold. “Between 1998 and 2008, most of the central banks sold gold. After 2008, they stopped selling gold and now they are buying the metal,” he said, adding that the simple message is the world is going to face enormous uncertainties.  Moreover, there will be repercussion on the geopolitical side as well.

As far as India is concerned, such issues can have an impact on the economy, but the country also can influence the outcomes; India needs to strategically team up with tier-II nations in Europe and Japan. "When you tie up with tier-II countries you may be able to withstand the crisis. In a way, finance will now be a sub-set of economic issues and economic issues will be a sub-set of political issues, unlike in the past,” said Reddy, adding that before 2008, finance was leading and now politics is going to lead.

“Tension between nationalism and globalisation will only intensify rather than reduce in the near future,” said Reddy.

Reddy thinks Dr Bimal Jalan and Rakesh Mohan, who gave a range of 5.5-6.5 percent, have done an outstanding job in analysing what is the optimal capital for the RBI. However, if the board had adopted 6.5 percent capital buffer, it would have improved the confidence in the central bank. At 5.5 percent, it will now reduce the confidence in the RBI.

Talking about the merger of the public sector banks, he said the purpose of the move is crucial. If the problem is governance, then that cannot be solved by merging two banks. However, if the purpose is to establish economies of scale, mainly operational efficiencies, then that can be achieved by the merger. But that can also be done by the respective boards by analysing the synergies. The government's intervention is not necessary.

A bank merger is a commercial decision based on synergies, not a reform. Global experience shows that only half of the mergers have been successful in terms of original intention, he added.