The importance of the recent monetary policy statement was not in what was done, but in what Dr. Bimal Jalan, the RBI governor, refused to do. He shrugged his shoulders and said that he really could not do anything about lowering interest rates because such lowering was beyond his control. Think about it. The head of a central bank correctly states that the domain of interest rates is beyond his authority. Certainly a tragedy unheard of in any part of the world today, not even in the Ministry of Finance (MOF) controlled Japan. But in MOF controlled India, it is a living hell with real savings deposit rates at above 10 percent and mandated public provident fund real savings rate at above 16 percent. A madness that puts us at the top of the league of mad, mad nations in 1999.

The table outlines the record of real deposit rates (RDR) in the world since1985. Curiously, data on interest rates on savings deposits are not reportedfor India, presumably because they were too obscenely high for India's MOFto report. While there a plethora of savings instruments in India, the postalsavings deposit rate of 12 percent (11.5 percent in 1999) is taken as arepresentative. For 1998 and 1999, the real deposit rates for India are 3.2percent and 9.5 %, respectively (note that the GDPdeflator for 1999 iscurrently at a 2 % annual rate).

Several important results emanate from the table. First, that the median (thehalf-way mark) RDR in the world has fluctuated between 1.9 and 2.9 percent.In India, such civilized rates were witnessed only four times - twice during thecrisis years of 1990 and 1991, and twice during the recovery years, 1993 and1994. Second, on average, India's RDR in the world has been in the upper 20percent. Third, most economies appear near the top (5th. position) on atransient basis, presumably when recovering from a crisis. Fourth, onlyPapua New Guinea (PNG) appears twice, in 1985 and 1996 with RDR lowerthan that prevailing in India today. While comparative data are not available,it is highly likely that if inflation stays low, India will have the distinction ofachieving something that has eluded its policy makers for the last 15 years -a spot on top of the world, with an RDR of 9.5 %, and in the company of majorwell managed economies like PNG, Seychelles, Dominica, Gambia, and Ethiopia.

Why has India's macro policy come to such a sorry, and depressing, state?Some answers to some frequently asked questions (FAQ) about the MOF'spolicy of forcing high interest rates on its citizens.

FAQ 1: High deposit rates are necessary because India has a high fiscaldeficit. This is the excuse trotted about by most apologists for the system, andor lazy economists. It maybe the case that high deficits cause high interestrates, though as documented earlier (High Interest Rates cause High Deficits, Economic Times, Oct. 13, 1999), the causality is likely to be the reverse inIndia. Even if the hackneyed conventional wisdom is accepted, it still doesnot argue for the MOF to artificially set the high deposit rate. The no-brainerpolicy is to let the financial market set interest rates. Only then, and if thedeposit rates remain high, can the fiscal deficit be described as a contributorycause.

FAQ 2: High deposit rates allow inflation to be low i.e. if the rates were nothigh, then inflation will be considerably higher. The mandarins who trot forththis argument should be asked as to why the rest of civilization has been ableto bring down inflation rates without recourse to Babu-administered interestrates. The control-wallahs should check out both inflation and interest rates inthe crisis ravaged East Asian economies. Economies which witnessed abouta 40 to 60 percent depreciation in currency value in 1997, posted inflationrates below 5 percent in 1998, and are reporting inflation below 3 percent in1999. In Indonesia, in Oct. 1999, year-o-year inflation was 1.6 %. Brazil,whose currency depreciated by close to 50 % in February, is reportinginflation below 6 percent. The point is that a decline in inflation is a globalphenomenon which even the most distorted policy makers in India have notbeen able to counteract.

FAQ 3: High deposit rates are necessary to help finance the fiscal deficits ofstates. This is the only quasi-valid argument. Small savings deposits (andprovident fund collections) operate as a chit-fund scheme for the stategovernments. They get the revenue, spend it, and find it easy to do sobecause the debt keeps accumulating and the temporary state politicians donot have to pay the Piper. Surely, the politicians and the MOF mandarinsshould have figured out that there is a win-win strategy here, rather than themindless lose-lose strategy that they have been pursuing.

The total small savings debt is close to 150,000 crores. If real deposit rateswould be as in the rest of the world (2.5 percent) then nominal rates would beclose to 5.5 percent. A subsidy of 6 percent on Rs. 150,000 crores is Rs.9000 crore, or more than 2 % of GDP. The total fiscal deficit of the states isclose to 3 % of GDP. Surely, the government can explicitly subsidizeinefficient states, rather than implicitly doing so. So the win-win policy is toprovide states with matching grants of half the amount saved by a marketdetermined interest rate policy. The states can continue to run high fiscaldeposits, though with explicit grants that will politically pinch, they might beexpected to be marginally more responsive than in the past.

The government can reduce its annual fiscal deficit by about 5 percent or Rs.5,000 crores. The corporates will be able to borrow at rates comparable totheir competitors in the civilized world. And India will be able to grow at above8 percent for the foreseeable future. What logic, or politics, is preventing thisfrom happening ? Ask your friendly politician and MOF bureaucrat for theirlogic, but do not be surprised if you only get Indian illogic.