RBI Governor and S 7 of RBI Act: Malegam's Views

Latha Vekatesh talks to Malegam on November 9, 2018 to get his views:

Never before has a Reserve Bank of India (RBI) board meeting been a topic of so much speculation and discussion. There is widespread expectation that at the meeting on November 19 the board, which has a majority of government nominees, will direct RBI governor Urjit Patel to:

• Hand over RBI’s capital.
• Open a window to provide credit for Non-Banking Financial Companies (NBFC).
• Reduce the minimum capital adequacy of banks to 8 percent from 9 percent.Dilute the prompt corrective action (PCA) rules.

Some or all of the above issues are expected to be raised. The question that now arises is what are the powers of the board, vis-a-vis the governor, deputy governors (DG) and the technocrats at RBI. To understand this, we have to go to the now controversial section 7 of the RBI Act.

This section reads:

• The central government may from time to time give such directions to the bank, as it may, after consultation with the governor of the bank, consider necessary in the public interest.
• Subject to any such directions the general superintendence and direction of the affairs and business of the bank shall be entrusted to a central board of directors which may exercise all powers and do all acts and things which may be exercised or done by the bank.
• Save as otherwise provided in regulations made by the central board, the governor and in his absence the deputy governor nominated by him in his behalf, shall also have powers of general superintendence and direction of the affairs and the business of the bank, and may exercise all powers and do all acts and things which may be exercised or done by the bank.

A perusal of the section shows that the powers of the board and those of the governor and deputy governors are almost identical. However, 7(3) clearly says that “save as provided in the regulations made by the board” the governor and DGs shall exercise powers.

Y H Malegam, veteran chartered accountant who was RBI board member for 21 years, says this phrase in section 7(3) should be interpreted to mean that the business of the bank shall be run by the governor, except in areas where the board has made regulations.

Now, what areas are covered by regulations made by the board? For this, section 58(2) of the Act says the board can make regulations on :

• The manner of conduct of the business of the board.
• The powers to be delegated to the local boards.
• The delegation of powers of the board to the governor and DGs.
• The running of RBI’s staff affairs.
• The manner in which the balancesheet of RBI has to be drawn up.
• Remuneration of directors.
• Relation of scheduled banks with RBI.
• Regulation of clearing houses.
• Rules for refunding of mutilated/lost notes.
• General rules for the efficient conduct of the business of the bank.

Reading sections 7 and 58 together, Malegam says the board has conventionally been paying regard to the general running of the bank but have not interfered with actual policymaking like setting interest rates or capital adequacy levels for banks.

The chartered accountant argues that the board always comprises representatives of the industry whose business is impacted by interest rates and even banking regulations like NPA (non-performing assets) recognition. Hence, it cannot be the intent of the Act to allow the board to dabble in these areas, said Malegam.

For instance, if the current board were to take up a resolution to direct the RBI by majority vote to open a window to lend to NBFCs, several board members would be “interested” parties. For example, chairman of Tata Sons N Chandrasekaran, who is also an RBI board member, will likely vote in favour of NBFCs as the group runs Tata Capital. Likewise, Bharat Doshi another board member, belongs to the Mahindra group which also has an NBFC.

Malegam’s view is that it cannot be the intention of the Act to allow the board to decide on substantive matters which ought to be the preserve of the governor.

Now it is possible to interpret section 58 (2) to say that the board can make new regulations under 58(2)(h) which says “the delegation of powers and functions of the central board to deputy governor…”. These new regulations can allow the board to specifically give itself powers to set the capital adequacy of banks.

Now section 58 specifies how new regulations can be made. Firstly, the board has to take the sanction of the government. Then after making regulations it has to forward them to the government and it shall lay a copy of the new regulations before each house of the Parliament and both houses have the right to modify the regulations in 30 days.

Clearly, the governor and deputy governors are within their rights to ask for fresh regulations if the board on November 19 seeks to enter into areas that previous boards have not tread on. The governor has a right to say he will follow the board only if fresh regulations are made to cover areas where the board intends to direct the RBI. He also has a right to ask board members affected by these new regulations to recuse themselves.

Likewise, on the issue of RBI’s capital, section 47 of the RBI Act may come to the governor’s rescue. Section 47 says that after making provisions for bad debt, depreciation, contributions to staff superannuation funds and for all other matters for which provisions are to be made under the RBI Act, the central bank may transfer the balance to the government.

The section only allows the current year’s surplus to be transferred, not the capital. The governor can hence legally say “no” to the board if the government asks for the RBI’s capital. The Act will have to be amended by the Parliament for further changes.

A major tug-of-war seems on the cards in the November 19 meeting. The governor could litigate his way, he could arrive at a compromise, agreeing on some demands but not on others, he could refuse to do what his conscience says is against the public interest.

While the law may come to the governor’s aid, the RBI governor is ultimately “autonomous within the government” as the now oft-quoted words of Jawahar Lal Nehru indicate.