The governor of the Reserve Bank of India, Urjit Patel, resigned from his position yesterday following increased tension between the central bank and the Bharatiya Janata Party-led government.

The move – which his predecessor Raghuram Rajan described as “a matter of great concern” and an “act of protest” – follows concern about the Modi government wanting to utilize central bank reserves and loosen access to credit at state banks already laden with bad loans in the lead-up to next year’s election.

Patel’s resignation marks the latest in a string of departures that Prime Minister Narendra Modi’s government has faced on the economic front.

Economist Surjit Bhalla, resigned on December 1 from a position as a part-time member of the Economic Advisory Council to the PM. And in June, India’s Chief Economic Advisor Arvind Subramanian stood down after four years in the job, saying that the government’s flagship project of demonetization had slowed down economic growth.

Though Patel cited personal reasons for his departure, it is the first time since 1990 that an RBI governor has resigned before completing his period of service. This only adds to the controversy that has lingered since the previous governor Raghuram Rajan left in 2016 without extending his period as governor. During Rajan’s spell in the hot seat, the level of acrimony between the RBI and the government rose markedly.

As Rajan’s hand-picked replacement, Patel was supposed to be a friend of the government. However, the RBI also supported demonetization under Patel’s tenure. The government began removing 500-rupee and 1,000-rupee notes from circulation in November 2016 and left the economy cash-strapped.

Differences over use of reserves, state banks

Meanwhile, a recent clash between the government and the central bank arose over serious major differences on how the RBI’s reserves are used and lending restrictions on state-run banks in the lead-up to a national election in mid-2019.

Prime Minister Narendra Modi responded to Patel’s resignation on Twitter:

“Dr Urjit Patel is an economist of a very high caliber with a deep and insightful understanding of macroeconomic issues. He steered the banking system from chaos to order and ensured discipline. Under his leadership, the RBI brought financial stability.”

However, Indian equity markets started Tuesday on a volatile note, which suggested that the business community was sorry to lose such a steady hand at the central bank.

The S&P BSE Sensex fell 1.44% or 503 points to 34,457 and the NSE Nifty 50 Index dropped 1.46% or 153 points to 10,335. However, the benchmark indices trimmed thos losses later in the day.

‘Wanted to resign earlier’

Government officials told Asia Times on condition of anonymity that Patel had wanted to resign earlier but was persuaded by Finance Minister Arun Jaitley to stay on until the state elections were over. This follows reports that the government feared an untimely exit by Patel would have a negative impact on state polls.

On Tuesday, a day after Patel’s resignation, the counting of votes took place in five Indian states: Rajasthan, Madhya Pradesh, Chhattisgarh, Telangana and Mizoram. 

Observers were quick to note that, in his farewell statement, Patel thanked all his RBI colleagues but failed to acknowledge the government or any of its representatives, even as a matter of official courtesy.

‘An act of protest’

Following Patel’s departure, his predecessor, ex-governor Rajan, said in an interview with the Economic Times: “I think the act of resignation by a government servant or a regulator is a note of protest.”

One of the key issues leading to the public spat between the Modi administration and the Reserve Bank was the government’s desire to utilize the central bank’s reserves of 3.6 trillion rupees (nearly US$50 billion). The government was reportedly ramping up pressure on the bank to release the reserves with the intention of boosting the economy in the lead-up to the election next year.

Another contentious issue was the Prompt Corrective Action (PCA) framework, under which as many as 11 public sector banks were placed due to stressed assets. The government wanted this measure to be relaxed, as it felt that the stringent norms hurt credit growth.

There was concern that the government might try to force the Governor’s hand and even invoke the never-before-used Section 7 of the RBI Act, often referred to as the “nuclear button”.

The feud became public after RBI deputy governor Viral Acharya said on October 26: “Governments that do not respect central bank independence will sooner or later incur the wrath of the financial markets, ignite economic fire, and come to rue the day they undermined an important regulatory institution.”

Possible successors

Speculation is rife in regard to who the next central bank governor will be, with various names already doing the rounds.

As has been an established practice in the past, Prime Minister Narendra Modi will first have to appoint an interim governor. The job is likely to go to NS Vishwanathan, currently the most senior of the four RBI deputies, and he could hold the position for several months until the government names Patel’s successor.

Names doing the rounds for the governor’s post include Hasmukh Adhia, who retired as Finance Secretary on November 30. He is considered a close ally to the prime minister and was one of the few people who knew about the surprise demonetization move in 2016.

Another possible candidate is Shaktikanta Das, former economic affairs secretary from 2015 to 2017. Das is currently a member of the Finance Commission of India, and the government’s representative at the Group of 20 summits.

Subir Gokarn, the executive director of the International Monetary Fund and a former RBI deputy governor between 2009 and 2012, is another being touted for the top position.