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Charts & Analysis

How The Government Can Get 400,000 cr. to fight the Covid Slowdown

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It’s obvious now that the lockdown will hurt India’s economy. And just as other countries are doing, we’ll need big stimulus to start pushing it back into gear. There’s a number of things that this process will involve:

  • Old businesses can take time to come back to life. Because workers would have migrated, supply chains disrupted etc. They will need help to survive through a time when their factories or offices are shut, and to have paid intermediate salaries or rent.
  • New businesses will have to be encouraged. Just as some businesses will need help, some of those will die. And those businesses will have to be replaced by others who are new and just getting in. Think of the barber shop that’s shut because it couldn’t pay rent for two months, but then people in the area will still need haircuts.
  • Giving people and small businesses money directly into their accounts will probably become a necessity, to encourage people to spend or to pay for some of the damage caused due to the lockdown.
  • The government will have to kickstart spending in a very large way – from better healthcare, to more infrastructure (to provide job) or simply to allow for the economy to rise again.

This costs a ton of money. A rough estimate would be, say, Rs. 400,000 cr.

The government doesn’t have this kind of money right now, and raising it by selling assets or issuing debt is enormously difficult. Because the debt it has is already quite large, though not as much compared to the western governments nowadays. However, it doesn’t need to take more debt. There’s money the government rightfully owns which sits idle in a very specific place.

Here’s how it can get Rs. 400,000 cr. now.

This kind of money doesn’t grow on trees, so what nonsense is this, Deepak? (I can hear you think) But bear with me, because I’ve thought this through.

The money may not grow on trees, but there’s one big mega uncle who prints it, and generates a large amount of profit. It’s called the RBI.

We have written earlier that the RBI has way too much money sitting in its balance sheet that it shouldn’t have. These are called “reserves” (very different from forex reserves). Read: The RBI is hoarding too much capital.

Essentially, these are very large numbers of retained earnings, that has gone up even more now with this crisis. The extra earnings can be given back to the government, which can then spend it.

Now, RBI makes a lot of money from multiple sources:

  • It has nearly 10 lakh crore worth of government bonds, which, at 6.5% will give it roughly 65,000 cr. in interest per year.
  • It also has, now, 35 lakh crores of Forex assets, (lets not call them “reserves” yet) , up over 6 lakh crores in the year. Yes, the RBI has bought a truckload of dollars this year.
  • The forex reserves earned them over 74,000 cr. last year, and we expect this year to be a little more – probably 90,000 cr. all things considered.
  • That is an income of 155,000 cr. already.
  • Apart from this there is a big other benefit. Now the RBI owns all these dollars – it bought them when the rupee was lower (on average, probably Rs. 55 or so). When the dollar appreciates, to balance the accounts, the difference is placed in a Currency and Gold Revaluation Account (CGRA).
  • The CGRA already had over Rs. 6 lakh crores last year.
  • This year, considering the RBI has 450 billion dollars in foreign assets, that will add Rs. 4-5 per dollar as revaluation profit – around Rs. 200,000 cr. more in the CGRA.
  • Due to accounting changes, and due to sales of dollars (around $30 billion in the full year) we should see around Rs. 60,000 cr. as a realized capital gain this year with the RBI.
  • For details, here’s a good Ananth Narayan article, but note that I simply do not agree that such a profit is not a real profit – it’s as real as any rupee printed.
  • The RBI doesn’t spend much: 7,000 cr. on employees, 5000 cr. on printing currency and this time, probably 10,000 cr. on payment of interest.

What are you saying Deepak? All these big numbers….

Okay, ignore the nitty gritties.

Simply put, RBI has a potential profit, this year, of around Rs. 200,000 cr. This is money it can remit straight to the government this year.

Doesn’t it do that always?

Well, no. The RBI is not very happy to be paying the government anything, to be honest. They keep building random “buffers” to avoid having to pay the government. See what all they have:

  • Contingency fund: 200,000 cr.
    • Why? We have no idea. The RBI never participates in any contingency whatsoever; all bank rescues are funded by the government or the PSUs or such. The RBI doesn’t even like to buy anything that isn’t government bonds, so they never take any balance sheet risk. There is no need for a contingency reserve at the RBI. And that too, 200,000 cr. – that’s more than 30% of India’s fiscal deficit! Come on.
    • You might keep a little bit here, but to hoard such a large number here is unnecessary.
  • Currency revaluation account: Now, over 800,000 cr.
    • This is basically reflecting the fact that RBI bought dollars at Rs. 55 or gold at Rs. 1600 per gram and now the dollar is at 75, and gold is at 3800.
    • This is huge. They keep adding to this fund every year, needlessly – a change in accounting procedure may help remove it.
  • Asset Development Fund: Rs. 23,000 cr.
    • Again, why? All major things owned by the RBI are now, by decree, transferred to the government. Examples: SBI, NABARD, NHB. Why should the RBI keep a reserve for this, especially when they have collectively spend less than 5000 cr. in the last five years from such a fund? What’s the point?
  • Other stuff: Rs. 200,000 cr.
    • This contains items like unrealized gains on Government bonds and foreign bonds
    • Again, this should be a profit but is not recorded as one just so that they can avoid having to pay the government. (One simple way to record it is to sell all the bonds and buy them back instantly, converting all the unrealized gains to realised profit)

In total, the RBI has a Rs. 13.5 lakh crores of extra profit (retained earnings of sorts) on its balance sheet. (As of March 2020)

Every year, it generates a large profit and just keeps a good portion in each of these sub clauses, and avoids paying the government. In a partial correction, last year, they discovered that the excess on the balance sheet was too large, and paid out Rs. 1.76 lakh crores as dividend, but it still leaves a huge amount of room for more.

You said Rs. 400,000 cr….

Yes, I’m coming to that.

The RBI’s balance sheet is Rs. 47 lakh crores.

The “equity” stuff on the balance sheet, which includes the “extra” stuff we talked about – is more than 13 lakh crores. That’s like 27% of their balance sheet.

According to the recent Bimal Jalan committee report, the RBI should have a total buffer of about 21% – around 9.8 lakh crores.

Given that they have more than 13.5 lakh crores – roughly 400,000 cr. can be given back to the government as dividend.

But what will they sell to give dividends?

Oh they don’t have to sell anything. The RBI has an account for the government. (It’s the govt’s banker). So you transfer from one account (the retained earnings) to another. That’s all.

RBI Bal SheetWell, what happens when the government spends the money? It goes to a bank account with some bank. So that banks account with the RBI will swell up and the government’s will reduce.

The RBI balance sheet doesn’t change – only the constituents do.

Wait. Why all this now?

Let’s get serious. This is a massive economic blow for the country. We will easily lose over 4% of GDP just to the lack of activity for a month. This has to be made up by massive government spending.

That spending has to be financed. Already, the highest expenditure of the govt is interest payments. (Over 5 lakh crores in interest. The next highest entry, defence spending, is 40% lower!)

The government may still need to borrow but why should it borrow when the RBI, which is owned by the government, has all the bloat sitting inside it?

That’s like saying I have a lot of fixed deposits but let me go borrow money instead to pay for my urgent medical bills, even though I’m reeling under interest payments.

The country needs help. We need to relax the ridiculously huge buffers maintained by the RBI in order for the government to spend.

The RBI could pay a lot more – but this year, a 400,000 cr. payment looks very achievable without stepping on some toes.

I’m not even asking for the government to eat into RBI’s already created massive reserves. Just that they take what profit would have been generated in this one year, instead of allowing RBI to bloat what is already much larger retained profits than required. Remember, most central banks have much lower retained equity as a percentage of their balance sheet. RBI is at 27% currently. Brazil is at 1%,  Russia at 13%, South Africa at 1% and the closest perhaps is Germany at 13%. India’s RBI has simply way too much in terms of retained earnings and buffers.

In the times of a crisis, you have to use buffers. This is a crisis. This is what a buffer was meant for. I know that a vast crowd will cry tears about how this undermines the independence of the RBI or some such random spiel, but this is not a time to listen to them. It’s time for us to place money in the hands of those that will shoulder the burden, and to not let it lie in forever-unused buffers like within the RBI.

Note: What about inflation, you might ask. There will be no inflation by this; none of the above will cause balance sheet expansion of the RBI. And btw, the whole world is inflating and doing so heavily. And they’re all going to support their own countries with specific packages. In that context, there is very little likelihood of any inflation – in fact we’ll have to fight deflation in a slowdown.