Dr. Subramanian Swamy and Dr. Raghuram Rajan – A conversation about the Indian economy and policy actions – By Dr. Bobby Srinivasan and Dr. Sudhakar Balachandran


Dr. Swamy: Dr. Rajan, the policies adopted by you over the last few months are not working. The GDP growth rate is falling below 5% and the interest rate hikes is not controlling the inflation.

Dr. Rajan: Dr. Swamy, it is a simple macro-economic theory that whenever inflation persists and refuses to come down, the best thing to do is to push up the interest rate (eg: Repo rate) to suck the excess liquidity from the market. This is a tested theory. During the 1970-1980’s when inflation persisted in the US, Dr. Paul Volcker – Federal Reserve Chairman kept pushing up the interest rates until the inflation was beaten to death, which it did. The prime rate, the rate at which the banks best credit worthy customers paid their interest went up to 22-1/2%. So increasing the interest rate is the right policy.

Again, look when the US was heading towards major deflation after the dot com bubble bust the then US Federal Reserve Chairman Dr. Alan Greenspan lowered the discount rate from 6% to 1% thus saved the economy from going in to a major recession. Look, recently the quantitative easing in the US namely QE1, QE2, and QE3 after the sub-prime crisis of 2008 has saved the US economy from going into a recession.

I am willing to lower the interest rate once the inflation is brought under control. The WPI is close to 6% and CPI is around 9%. Lowering interest rate would be highly risky. This amounts to adding ghee to the existing fire.

Dr. Swamy: Inflation in India is caused by a host of factors. Let us look at them. First is the supply situation. Production of essential goods has always fallen short of demand. We need cheap money to invest to produce these goods. Second it is the supply chain ineffectiveness. Between the producers (farmer) and the ultimate consumers there are many intermediaries. Their cost of funding is a mind boggling 30 to 40%. The inflation will automatically come down if we print a lot of money and drive this rate down.

Dr. Rajan: What you are saying is counter intuitive. Countries that printed money have seen their currencies become worthless. See what happened in Zimbaguay recently. Overtime many countries have seen their currencies decimated because of hyperinflation. So pumping the prime will have an adverse effect on the Indian Rupee. May be you should talk to the Prime Minister and the Finance Minister to reduce the massive budget deficit and the accumulated debt. With lower deficit, inflation will automatically come down. Please look at Mr. P. Chidambaram’s budget. In the annual budget of 16.65 lakh crore Rupees, 29% of it is borrowed money (Rs. 4.82 lakh crore Rupees). This is outrageous.

Dr. Swamy: I agree with you. The priority of the new government should be to rectify the budget which is in a complete mess. We are on the verge of a either financial blowout or bankruptcy. So we have to get resources from extra budgetary sources such as auctioning 2G, 3G, 4G spectrums, which are presently given away at throw away prices. Immediately we need a tax reform. Currently is it “Tax Terrorism”. Take the example of petrol that sells at Rs. 75 a liter but the actual cost is Rs. 31 only. The rest are all taxes. If we remove it, there will be no need for subsidy. I think the main priority is to boost the rate of savings. We should make savings interest tax deductible including bonds, time deposits. Personally, I am in favor of abolishing income tax. By the way do you know that we will get 11 lakh crore Rupees by a coal block auction alone, which will wipe out our budget deficit?

Dr. Rajan: This is not the economics that I am familiar with and if indeed you become the Finance Minister I will be needed to step down so that another RBI governor can take over and implement your policies. Thank you for the conversation.

Readers, please bear in mind that this conversation is though hypothetical, is between top brains in the country. If they cannot concur, we ordinary mortals can only watch it and get more confused. The last 10 years of UPA mess has pushed up accumulated retail inflation above 100%. We are getting frustrated because we are not able to keep up with the galloping prices. Does anybody have a solution?

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