Government Gets Rs. 99,122 cr Surplus from RBI - Need or Rashlessness ?

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RBI-office

UTKARSH AGARWAL, JMI

COVID-19 pandemic has put forward unprecedented challenges and naturally, fiscal deficit for the government. However, the void has been filled by a massive surplus given by RBI to the government i.e. Rs 99,122 cr as a surplus. However, now the contingency risk buffer is set at 5.50% only. We shall look into the issue in detail.

What is surplus?

Every year RBI transfers surplus from its revenue to the government in the form of dividend tax-free. In the financial year 2019-2020, a surplus of Rs 57,128 cr was transferred by RBI to the government. However, this year, with a slight change, the surplus amount is accounted only for 9 months due to shifting from the financial year to April-March from the earlier July-June.   
RBI-earns-money 

RBI earns its revenue from the following functions:
  • It manages the borrowing of the central government and state governments(s).
  • it regulates & supervises banks and NBFCs
  • It manages the currency and payment system.
  • It claims management commission for these operations.
  • It earns money from foreign currency assets (bonds, securities, t-bills and deposits)
  • Rupee denomination bonds it buys from the government.
  • Lending money to banks for the short term.

Initially, RBI, when established in 1935, was instituted as a private shareholders bank. It was in January 1949, that the bank was nationalised via Reserve Bank (Transfer To Public Ownership) Act, 1949 which made sovereign its sole owner.  Hence, the excess of expenditure incurred by RBI,  i.e., the surplus is transferred to the central government. It is done per section 47 of the act. 

What is the contingency reserve?

RBI has been cautious with its expenditure and it maintains reserves in order to deal with the financial contingencies, provide financial stability and confidence in the market. Hence, a part of the advance is advanced to the contingency fund which used to be @12% of its balance sheet. Apart from contingency reserve, the central bank also maintains the Assets Development Reserve, which looks into asset formation and investment into the bank's subsidiary holdings. Contingency fund and Asset Development fund together used to be maintained at 12%. 
However, in 2013, a technical committee of the RBI board headed by YH Malegam reviewed the adequacy of reserves and distribution of surplus and recommended a higher surplus to be given to the government. It recommended that the contemporary reserves were sufficient and the RBI can afford not to add to the reserves. (See here)

Bimal Jalan Committee 2019: Bimal Jalan Committee straight away recommended the Contingency Risk Buffer (CBR) to be market at 5.5% to 6.5%. It said that though there were no internationally laid down risk management practices, the financial resilience of the RBI must be maintained above the level of peer banks. The total economic capital must be maintained between 20.8% to 25.4%. and where the realised equity levels are above the required level entire net income must be transferred. But where the equity levels are lower than the required level, only the residual income (surplus - 5.5% to 6.5%) shall be transferred to the government. 

Conclusion

The RBI has chosen to maintain its CRB at the lowest, i.e., at 5.5% and has distributed maximum wealth. While this surplus can compensate the government for the loss of tax revenue it incurred due shortfall in indirect taxes in the month of April-May, it has reduced the chances of risk mitigation in case of financial shocks. 
Currently, Foreign Institutional Investors have invested Rs. 2.75 trillion which is a decade high. These investments are speculative and short-term. At the same time, these investments are vulnerable to financial shocks. These investments shall be withdrawn as soon as the state of affairs becomes unfavourable and the confidence of investors drops. In such a case, this step may prove to be a blunder.   
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