Explained: How and why RBI transferred 1.76 trillion to the government

Explained: How and why RBI transferred 1.76 trillion to the government

The Reserve Bank of India RBI transferred 1.76 trillion to the government on Monday (Rs 1,23,414 crore) of its surplus to the central government for the fiscal year 2018-19. Additionally, Rs 52,637 crore were also allocated as per the recommendations of the Bimal Jalan Committee on Economic Capital Framework (ECF).

Surplus funds:

What are surplus funds. How and why RBI transferred 1.76 trillion to the government
How and why RBI transferred 1.76 trillion to the government: What are surplus funds?

The surplus transfer, also known as the dividend, is almost twice the previous record allocation of Rs 65,896 crore. Last year, the RBI transferred Rs 50,000 crore, while in 2016-17, the dividend was cut short to Rs 30,659. This drastic cut was due to demonetization.

Out of the total approved amount, Rs 28,000 crore have already been transferred to the government. This is also known as interim dividend. The ECF that is headed by former RBI governor Bimal Jalan, along with former deputy governor Rakesh Mohan, recommended a much smaller dividend transfer.

Financial analysts saw this coming?

Prior to the formal announcements, some financial analysts were predicting a dividend of 3 trillion rupees from the RBI reserves. They were expecting funds to be allocated from contingency and revaluation reserves. However, only Rs 1.74 Trillion were allocated.

According to Ananth Narayan, associate professor, finance at the SP Jain Institute of Management and Research, it is a bonanza for the government and the markets. He also said that this step will reduce the borrowing from the market.

Another expert, Aditi Nayar, principal economist at ICRA believes that the step will help to reduce the government’s fiscal deficit. The transfer of surplus funds should help counterbalance the expected shortfalls in various tax revenues in the coming financial year.

Although the RBI has not released the committee report in public, it has issued a detailed statement, which said the central bank has accepted the recommendations.
The committee said that the RBI must ensure the primary barricade for monetary, financial and external stability. Therefore, the flexibility of the central bank needs to be commensurate with its public policy. The policies and objectives must be maintained above the level of peer central banks as would be expected of a central bank of one of the fastest-growing large economies of the world.

Explained: How and why RBI transferred 1.76 trillion to the government
Explained: How and why RBI transferred 1.76 trillion to the government

According to the committee, the RBI’s provisioning for monetary, financial and external stability risks is the country’s savings for a “rainy day” (a monetary/financial stability crisis). This capital has been consciously maintained with the RBI since it is the monetary authority and the lender of last resort.

What is the concept of two equities?

Before we decode the Jalan committee report’s recommendations, we need to understand the concepts of equity or capitals used in central banks.
The committee talks about economic capital. Economic Capital is the risk amount that a central bank must have to cover all the risks related to its assets and ongoing activities, such as market risks, operational risks, etc.

What is the meaning of economic capital?

what is economic capital framework of rbi. How and why RBI transferred 1.76 trillion to the government
How and why RBI transferred 1.76 trillion to the government: what is economic capital framework of rbi?

The economic capital is broadly explained as emergency fund plus revaluation reserve and some other components, like asset-development funds. The total economic capital sums to about Rs 9.6 trillion as of July 2018. In 2017-18, the contingency fund stood at Rs 2.32 trillion. Most of the revaluation reserve in RBI’s balance sheet is currency and gold revaluation account (CGRA), which was Rs 6.92 trillion at the end of June 2018. Others revaluations such as “Investment Revaluation Account-Rupee Securities”, were considerably small.

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The RBI board agreed to keep it on 5.5 percent and hence decided to transfer the balance 1.3 percent of the fund to the central government. This sums up to be Rs 52,637 crore , which is the additional amount. One of the experts said that the committee has taken a very conservative approach in maintaining equity.
According to a report by the former chief economic advisor, Arvind Subramanian, the RBI maintains the highest levels of financial stability. Globally only 2 per cent of realized equity is maintained.

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Decoding the Jalan committee report

According to the Jalan committee report, the economic capital was 23.3 percent of the balance sheet as on June 30th.
This means that the capital in the balance sheet of the RBI as of June probably increased to about Rs 40.5 trillion (from Rs 36.18 trillion a year ago). This also matches with the balance sheet size indicated in the report through other calculations.
The second capital mentioned by the committee report is “realized equity” It is simply the “contingency fund”. The amount was Rs 2.3 trillion in July 2018.

Decoding the Jalan committee report  . Explained: How and why RBI transferred 1.76 trillion to the government
Decoding the Jalan committee report .

Understanding the recommendations by the Jalan committee report

The Bimal Jalan committee says that the RBI must always maintain the “realized equity” at 5.5 percent to 6.5 percent of the total balance sheet. The panel said the realized equity was 6.8 percent of the balance sheet, but it can technically go down as much as 5.5 percent.

The RBI board agreed to keep it on 5.5 percent and hence decided to transfer the balance 1.3 percent of the fund to the central government. This sums up to be Rs 52,637 crore, which is the additional amount. One of the experts said that the committee has taken a very conservative approach in maintaining equity.
According to a report by the former chief economic advisor, Arvind Subramanian, the RBI maintains the highest levels of financial stability. Globally only 2 percent of realized equity is maintained.

Garima Tomar

Senior Software Development Analyst at an IT firm

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