Gist of EPW March Week 5, 2019

The Economic and Political Weekly (EPW) is an important source of study material for IAS, especially for the current affairs segment. In this section, we give you the gist of the EPW magazine every week. The important topics covered in the weekly are analysed and explained in a simple language, all from a UPSC perspective.

TABLE OF CONTENTS

1. Monitoring Digital Election Campaigns
2. Financial Literacy and Financial Inclusion
3. Central Banking in India: A Retrospect and Prospects

1. Monitoring Digital Election Campaigns

Context

• The ECI’s approach to campaigning on social media has failed to ensure a level playing field.
• Many social media platforms have now come together with the Internet and Mobile Association of India to release a “Voluntary Code of Ethics” in consultation with the Election Commission of India (ECI).

Analysis of the issue

• The campaigning for the upcoming Lok Sabha elections has been perhaps the most “digital” so far with parties across the spectrum now using, and often abusing, the digital tools available to them such as social media, mobile apps, online discussion forums, and mass messaging.
• Through the Voluntary Code of Ethics, Facebook, Google, Twitter and others will monitor and take action against election-related paid advertisements that violate the ECI guidelines.
• This code claims to ensure that there is no misuse of the platforms that can “vitiate the free and fair character” of the electoral process.
• Over the last decade, social media has developed from being a networking tool to becoming an important mode for citizen engagement that can empower, educate, and emancipate, changing the way in which democracies operate.
• However, as was evident from the Cambridge Analytica revelations, the personal data of millions of people was harvested using these very same tools for political gains.
• These instances reveal that while social media platforms can be empowering, they are still unequal forums with differential access determined by money and power.
• At an all-party meeting called by the ECI in August 2018, there was discussion on instituting a cap on election-related expenses by political parties in order to bring parity in spending by national and regional parties and limit how money can impact election outcomes.

Difficulties in tracking

• Much of social media spending takes place through influencer marketing, where prominent individuals who are aligned with political parties run long and expensive campaigns.
• A majority of such campaigns are run on cash payments and it is difficult to establish a money trail. It is also almost impossible to track individuals posting advertisements on behalf of political parties.
• Platforms such as WhatsApp, which offer encrypted messaging, are also used to promote political advertisements, further complicating the process of monitoring.

Shortcomings in ECI actions

• The ECI has recognised the use of social media in election campaigning as early as October 2013—before the 2014 Lok Sabha elections
• In its “Instructions of the Commission with respect to use of Social Media in Election Campaigning,” it had only aimed these instructions at “candidates, political parties, media and election observers.”
• With several state assembly elections having been held since then, and there is no updation of instructions.
• There have been no further guidelines on how social media platforms need to be used by candidates, parties, and others, nor has a cap been put on the inordinate sums of money being used by parties to advertise on these platforms.
• The recently released voluntary code of ethics is a case of too little, too late, and is only a guide on how social media companies and the ECI are to interact in monitoring paid advertisements during electoral campaigning.
• Being platforms that carry advertisements, these social media companies should essentially be bound by the model code of conduct with respect to paid advertisements from candidates, political parties, and their supporters.
• The 2013 instructions from the ECI had already directed that advertisements on social media require pre-certification and transparency on payments made for the same.
• That steps to comply with these instructions are being taken only now, and that too on a voluntary basis, shows the ECI’s lethargic and outdated approach towards digital platforms and their role in electoral processes.
• As a result, the ECI has failed to ensure a level playing field in the electoral process, online and offline.

Conclusion

• The digital sphere is not separate from physical, social and political spheres, and to view it as operating in isolation is rather unwise.
• We are in a grey zone now because we have ignored the need to interrogate how digital platforms and technologies affect democratic systems, and in turn the integrity of electoral processes.
• Setting up a “voluntary” code of ethics one month before the world’s largest elections are to begin is nothing more than a futile public relations exercise by the social media platforms.
• Ideally, the ECI should have been creating an adequate and nuanced knowledge base on social media in the last few years, which would have enabled it to navigate the fast-evolving digital landscape.
• If it wants to catch up with what social media and elections might look like in 2024, the time for the ECI to take action is now.

2. Financial Literacy and Financial Inclusion

Context

• Finance has been widely regarded as a powerful intervention to foster economic growth, and yet, as of 2017, roughly a third of the adults globally remain unbanked, down from nearly 50% in 2011
• What this suggests is a discernible gap between the availability of finance and relatedly, its use.

A look at Indian Stats

• 690 million adults were added into the fold of account holders between 2011 and 2017, the extent of financial inclusion—defined as an adult (aged 15 years and above) having an account at a formal financial institution or through a mobile money provider—stood at 80% in 2017, up from 35% in 2011.
• On average, 14% of Indian individuals saved at any financial institution in 2014, up just 2 percentage points since 2011. By 2017, although this increased to 20%, it was much lower than the global average of 27%.
• The picture is even starker when it comes to the use of formal credit with only 7% of individuals in India borrowing from a financial institution in 2017, lower than the global average of 11% and the lowest among the other Brazil, Russia, India and China (BRIC) countries

Refining the financial Inclusion mechanism by focusing on both Demand and Supply side

• Realizing the not-so-impressive progress of finance, policymakers have been continuously devising innovative ways to improve financial inclusion. Most policy measures thus far have focused on the supply-side, taking the demand-side as a status quo.
• However, after the global financial crisis, it is being increasingly recognised that any concerted attempt to promote financial inclusion would need to take a holistic view of the process, encompassing the demand-side as well.
• One area on the demand-side of the financial inclusion process that has gained currency is financial literacy. By now, there is persuasive evidence which suggests that adequate knowledge of basic economic concepts, such as interest rate compounding, inflation or financial risk diversification equips individuals to incur lower transaction fees, deleverage their outstanding debts and ensure lower interest outgo on loans
• Central banks stand out as institutions that are leading programmes on financial literacy.
  • Consistent with this global trend, the Indian central bank has also undertaken significant steps to promote financial literacy of its population.
  • A key initiative in this regard has been the establishment of Financial Literacy Centres (FLCs). Accordingly, beginning 2007, commercial banks were advised to set up FLCs on a pilot basis in the state/union territory under their jurisdiction

How were FLC’s established?

• First, under the FLC module, each bank has been entrusted with the responsibility of acting as a sponsor bank for an allocated district within a state.
• Second, even within a state, there are instances where a FLC was established in a district and a contagious one where it was not.

Under the stipulated guidelines, the lead bank was needed to set up FLCs with the key objectives of facilitating financial inclusion through provision of two essentials, that is, literacy and easy access, for disseminating information regarding the central bank and general banking concepts to the various target groups, and for providing education on financial planning and responsible borrowing, including debt counselling and insurance.

Examples from other countries

• Such policy focus on financial literacy is not unique to India. Several countries such as Russia, Belgium, Sweden and Turkey are implementing a national strategy for financial literacy.
• Others such as Czech Republic, Netherlands, Slovak Republic, Spain and the UK are revising their first national strategy for financial education based on the experience gained.

Results

• The establishment of FLCs does not exert any perceptible impact on access to bank account.
• During the initial days of the programme, awareness regarding the FLCs was limited.
• Besides, the FLCs were serving mostly walk-in clients; outdoor literacy drives were an exception. In addition, the literacy material available at the FLCs was primarily publicity material pertaining to various products of sponsor banks.
  • As a result, the FLCs were not in a position to maintain arm’s length distance from sponsor banks, negating the very efficacy of the scheme.
• FLCs established in urban areas exert a positive impact on the use of bank account.
  • With experience changes were made by recognising the limitations of the initial training modules, the banks started preparing financial literacy material in vernacular languages using stories and pictorial representations, improving its appeal and accessibility to the respondents.
  • The role of the financial counsellors was also streamlined, including improvements in staffing, resources and infrastructure, as well as their capacity-building. All these factors could explain the efficacy of the FLCs
• Establishment of the FLCs by sponsor banks with bigger branch network does not necessarily translate into financial inclusion, indicating that the physical branch infrastructure is not a necessary condition for improving financial inclusion.

Key Takeaway

• FLCs are more effective in influencing the use of accounts as compared with access.
• FLCs established by well-capitalised sponsor banks with low levels of problem loans are better equipped to ensure financial inclusion.
• In addition, the results also show that both traditional as well as non-traditional channels are able to improve financial inclusion, although their impact via FLCs is manifested at a later period.

Conclusion

By now, there is substantive evidence which suggests that financial literacy can improve the efficacy of financial decision-making. However, there is limited evidence as to whether better financial decision-making is manifested in improved financial outcomes.

• Financial literacy has played an important role in improving account activity, but its impact on the access to bank accounts has been less compelling.
• The growing efficacy of financial literacy during the latter stages suggests that addressing the impediments which plagued the process during the initial phase played an important role in furthering financial inclusion. It, therefore, becomes important to address the specific micro-level impediments that can further enhance its efficacy.
• While there is no gainsaying the growing importance of electronic channels towards acquiring financial literacy, the role of traditional channels such as bank agents highlights their importance in augmenting financial literacy.

3. Central Banking in India: A Retrospect and Prospects

Context

• The issue of governance in central banking is being widely debated globally. In India, tensions between government and the Reserve Bank of India (RBI) in the very recent past have been aired in public, culminating in the resignation of Governor Urjit Patel.

Current critics about RBI

• There are controversies about measurement of the gross domestic product (GDP). The Comptroller and Auditor General (CAG) of India mentioned that the deficits are understated.
• The critics point out that the dividend from the RBI to the government already exceeds the dividends to government from all public enterprises. Yet, the government has sought and obtained interim dividends recently, obviously to meet cash needs.
• The critics also point out that the fiscal authorities are using the banking system to implement the government’s programmes on an unprecedented scale.
• With the latest directions from the government on lending to the small and medium-scale enterprises (SMEs), the critics point out that “behest lending” of pre-reform period has been replaced with “lending on command.”

Evolution of RBI

• The RBI was set up originally as a private shareholder institution under the RBI Act, 1934. It commenced its operations on 1 April 1935.
• The RBI was nationalised in 1949, despite its protest. The RBI was also given the power to regulate commercial banks after the failure of several banks at that time.
• The RBI became accountable to the union government (Ministry of Finance) under the Constitution that launched the Republic of India on 26 January 1950.
• The RBI became the debt manager and banker to almost all state governments through agreements with each of them. Thus, RBI became a fully government-owned full service central bank.
• The RBI’s role in Indian economy, in particular, in relation to government has been evolving, responding to the needs of the day within the mandate set by the government from time to time.
• The retrospect can be divided, for purpose of convenience, into several phases roughly as a 20-year cycle, namely 1950–70, 1970–90, 1990–2010, and post 2010.

Planned Fiscal Dominance, 1950–70

• The 1950–70 period is characterised as one of planned fiscal dominance.
• With the establishment of the Planning Commission in March 1950 and adoption of planning as the driving force for policy interventions in the economy, the RBI’s policies had to be in line with plan priorities.
• The mid-1950s saw the beginnings of serious erosion of autonomy in the monetary policy function due to the emergence of the system of ad-hoc treasury bills and automatic monetisation.
• Under the system, it was agreed that the RBI would replenish government’s cash balances by creation of ad-hoc treasury bills in favour of the RBI. The ad-hoc treasury bills, which were meant to be temporary, lasted for over four decades.
• Pandit Nehru maintained that the RBI is “centrally autonomous but it is also subject to the central government’s directions.” Nehru’s stand was that the RBI is independent within the government.
• During this period, the RBI attracted professional talent and the officers of the central bank were held in the high esteem, all over the world and also in global institutions.
• The subservience of the RBI to the government in the 1950s and 1960s was in alignment with global trends in general.

Fiscal and Financial Sector Dominance, 1970–90

• The 1970–90 period has seen the dominance of the fiscal and financial sector with an inward-looking bias.
• The decision to nationalise 14 private sector banks that controlled most of the country’s deposits in 1970 was a milestone in the country’s economic management by the government, but it was not in consonance with RBI’s stance, and was admittedly political.
• The RBI thus became subject to, if not subservient to the dominance of both fiscal policy of government and its financial sector policy.
• The union government which had no official functionaries in states except in regard to their constitutional obligations, after nationalising banks they got a network to implement their priorities.
• The RBI became a partner of, if not an agent of the union government in its developmental activities in the states also.
• National emergency in the 1970s affected the functioning of the RBI, especially with the appointment of a person not so well respected in the RBI or by financial institutions as governor.
• Post-emergency, the RBI, in 1978, reluctantly went along with the controversial decision to hold gold auctions on behalf of the government.
• While the limited and half-hearted trade and industrial reforms brought about a jump in the growth of GDP to over 5% per annum in the 1980s, the RBI was concerned that the high-growth jump was with borrowed time and money.
• The collapse of the Union of Soviet Socialist Republics (USSR) added to the imbalance in external sector and the RBI assisted the government in concluding a rupee trade agreement with Russia.
• Without doubt, the 1980s were a turbulent period, but the RBI, by and large, managed the price situation better than almost all countries in the developing world.
• The RBI repeatedly warned the government about the impending crisis, but to no avail. Domestic economic vulnerabilities built over the years led to the balance of payments crisis in early 1991, though the proximate trigger was the Gulf crisis and political instability.

Partnership in Crisis Management and Reform, 1990–2010

• In the late 1980s and early 1990s, globally, the relationship between the central banks and the governments changed in many countries, with emphasis on independence of central banks and the genesis of inflation targeting framework.
• The RBI’s series of warnings in the late 1980s about an impending crisis were ignored by the government. The Indian economy experienced a severe balance of payments crisis in 1991.
• Irrespective of or because of political uncertainties, the government took the advice of the RBI on crisis management and strongly supported its actions in both financial and external sectors.
• It culminated in using gold belonging to the government and pledging the gold belonging to the RBI to save the country from loss of reputation and defaulting from meeting external payments.
• The apolitical stature of RBI won the support of the full spectrum of political leadership.
• Beginning with the two-step devaluation of currency and the reform budget in 1991, a partnership began between the RBI and the government in bringing about fundamental changes in several fronts.
• Perhaps, there was an agreed coherent intellectual framework that governed the policies of and relations between the RBI and the government.
• The RBI strengthened its advisory and debt and cash management roles for state governments since the late 1990s, with the institution of regular meetings with finance secretaries and committee of finance secretaries.
• In 2005, the RBI set up the Board for Regulation and Supervision of Payment and Settlement Systems (BPSS) to oversee the payment and settlement system.

Divergence from Global Thinking

• From 2004, the government and the RBI had to face unfamiliar challenges. These related to large capital inflows, high economic growth, and unprecedented expansion in credit, asset bubbles and absorption of highly elevated oil prices.
• These resulted in some differences between the government and the RBI in the areas of monetary management and external sector.
• The global thinking on finance and money was appealing and euphoric during the early part of the 21st century till the financial crisis hit in 2008.
• There were clear signs of divergence in thinking between the RBI’s caution and the global preference for market-based finance leading the development.
• The RBI was out of alignment with practice of central banking globally in terms of inflation targeting, independence of central banks, countercyclical regulation, financial innovations and capital account management.
• The government, in general, was in agreement with global thinking, but eventually tilted in favour of trust in RBI’s policy advice in these areas. However, the RBI became an unwilling party to a nationwide bank loan waiver programme in 2007 and partly funded it.

Rebalancing and the New Framework, Post 2010

• Since the financial sector reforms commenced in early 1990, the government shed some of its authority in regard to financial and external sectors to the RBI, regulators, and markets.
• Developments since 2010 point to a review of the balances between government, financial markets, and the RBI.
• The government took direct responsibility for coordination in financial sector, and sought inputs from financial institutions and markets, especially global financial giants directly rather than through RBI, as was the practice previously.
• The government reduced its dependence on the RBI for the intellectual framework for financial sector reforms since 2008.
• The RBI resumed its task of implementing reforms in money and finance once the process of crisis management and recovery were completed, and after it had effectively handled the aftershocks of the dollar tantrums in 2013.
• The legislative mandate for a new monetary policy framework came into force in June 2016 through amendments to the RBI Act. The primary objective of the monetary policy now is to maintain price stability, while keeping in mind the objective of growth.
• The monetary policy framework in India has to be operated by the RBI, and the regime is described as flexible inflation targeting. The central government under the new framework determines the inflation target in terms of consumer price index once in five years.

Current Issues

• In October 2018, the channels of normal communication for reaching the agreed position between the government and the RBI governor had broken down.
• The board of RBI appeared to have differences with the governor on the same issues. These differences came into public domain after a speech by a deputy governor.
• First and foremost issue is the contentious issue relates to the use of excess reserves in the balance sheet of the RBI.
• This is not the first attempt by the government in this regard. In 1986, the government demanded the RBI’s profits in the government’s quest for fiscal relief. Governor Malhotra explained how the profits of RBI were different from the normal profits of other public sector companies, and added that they were notional.
• In 2018, the government took the stand that the existing levels of reserves are in excess of the requirement and, therefore, the excess of reserves could be legitimately claimed for use by the government.
• There is no doubt that in the ultimate analysis, the government as the owner has a claim over the reserves, but the way it exercises gives signals to the market and influences public opinion.
• The use of reserves accumulated in the past will have to consider four factors, namely
  1. The macroeconomic implications of such transfers, in particular, the monetary implications which are likely to be expansive;
  2. The issues of intergenerational equity since the reserves have been accumulated as an insurance for the future;
  3. The constitutional propriety of using the reserves directly to fund capital of the banks instead of crediting it to Consolidated Fund of India and then using it as considered necessary by the government; and
  4. The incongruity of the banking regulator being asked to use its resources to fund banks that are in need of the capital.
• Second, the government demands that the RBI should relax the norms of PCA. The government’s contention is that the growth is affected by such stringent measures.
• This is certainly an operational matter and a matter on which the government-owned institutions could make representations to the RBI for consideration.
• Third, the government is also seeking the dilution of the Basel III norms for India on the ground that these are more stringent than the global standards. In general, the Basel III norms assume a particular level of realisable value of the assets in case it becomes non-performing.
• Fourth, the extent of the RBI’s response to the liquidity conditions being faced by the NBFCs is another point of friction between the government and the RBI.
• Fifth, the government seeks a policy and a procedure from the RBI to facilitate lending liberally primarily to small and medium industries.
• Finally, the issue of governance and the role of board have been raised. This certainly is a matter which requires to be considered keeping in view both the global practices and changing domestic circumstances.

Prospects

There are three interrelated issues that are being globally deliberated now.

• First, in regard to operational independence there is increasing realisation that monetary policies, fiscal policies and financial sector policies have more significant spill over effects than was realised before the global financial crisis.
• Second, in regard to the choice between a full service central bank and a monetary authority, it is necessary to examine the advantage of coordination recognising spill over effects vis-à-vis the risks of conflict of interests in performing multiple functions.
• Third, in the context of institutional independence the question raised is how independent the agencies can be without encroaching on the larger public policy function of the state.
• India has to very closely watch the global developments and chart the future of our central banking, more than ever before in history for several reasons.
• The Government of India in partnership with the RBI should address the root causes of the recent standoff between them.

Conclusions

• The future of central banking everywhere depends on when and how the confusing era with regard to central banking ends.
• Further, the immediate future of central banking in India depends not only on how it equips itself to face the complex unclear challenges, but also on the manner in which the current concerns relating to fiscal management, public sector ownership, external sector balance and coordination functions are resolved by the government.

For more EPW articles, read “Gist of EPW”.