Banking Article, Banking Finance 2020, Banking Finance February 2020

Reserve Bank of India (RBI)’s Surplus Profits Transfer: What, Why, How

  1. Introduction:

The Reserve Bank of India (RBI), established under Reserve Bank of India Act, 1934 on 1st April, 1935 is the central bank of India. As central bank to Indian economy, RBI has to perform a wide range of supervisory, regulatory and monitoring functions to help central government to make monetary and financial policies for smooth running of whole Indian economy. It is fully owned by Government of India and acts as a banker, debt manager and advisor to the central government. It is also a custodian and manager of cash and reserves, both Indian Rupee and foreign exchange and it has to act to help the government in any financial or monetary crisis or adverse state of economic affairs.

  1. RBI’s Surplus Profit / Fund Transfer:

Section 47 of RBI Act, 1934, which deals with allocation of surplus profits, empowers RBI to pay or transfer its surplus profits / funds to central government after making required provisions.

It has been advised earlier also by many economists and committees to reduce and maintain the reserves / funds of RBI, like many  central banks around the world (like US and UK) around 13% to 14% of their assets as compared to RBI’s 27%.

There has earlier been transfer of surplus profits/funds by RBI to central government in month of August almost every year during last decade as detailed below :

Table: Surplus paid by RBI to the Government of India

Date of Transfer  

Fund Transfer Amount

(₹ Crore)

Surplus Profit for RBI FY
13-Aug-09 25,009 2008-09
12-Aug-10 18,759 2009-10
11-Aug-11 15,009 2010-11
9-Aug-12 16,010 2011-12
8-Aug-13 33,010         2012-13
10-Aug-14 52,679         2013-14
13-Aug-15 65,896         2014-15
11-Aug-16 65,876          2015-16
10-Aug-17 30,659 2016-17
27-Mar-18

08-Aug-18

10,000*

40,000

2017-18

 *   RBI transferred fund of ₹10,000 crore to the Central Government on 27.03.2018 as interim surplus, out of the total surplus of ₹50,000 crore for F.Y. 2017-18.

  1. Bimal Jalan Expert Committee on Economic Capital Framework (ECF):

On 26 December 2018, the Central Board of RBI, in consultation with Government of India constituted an Expert Committee to review the extant Economic Capital Framework under chairmanship of Dr. Bimal Jalan, former RBI Governor. With other things, the Committee was to review and suggest a suitable profit distribution policy after taking into account whether higher or lower provisions required under section 47 of RBI Act i.e. policy on transfer of surplus profit to Central Government after making provisions, ‘ which are usually provided by bankers’.

On 14th August 019, the Bimal Jalan Committee submitted its report on Economic Capital Framework (ECF) of RBI to the Governor of RBI. On the basis of recommendations of the Committee, the Central Board of the Reserve Bank of India (RBI) decided on 26th August 2019 to transfer a sum of ₹1,76,051 crore to the Government of India.

This huge fund transfer amount of ₹1,76,051 crore to the government was ₹86000 crore more than the expected surplus transfer of ₹ 90,000 crore announced in budget. It includes ₹1,23,414 crore of surplus profit / income and ₹52,637 crore of excess provision identified under revised Economic Capital Framework (ECF). Out of total transfer amount, ₹ 28,000 crore has already been paid to government as interim dividend. The remaining fund transfer amount of ₹1,48,051 crore is still to be paid to government. The huge surplus transfer amount is around 0.8% of GDP and 252% of the previous surplus transfer of Rs. 50,000 crore in 2018.

  1. Mechanism of Economic Capital Framework (ECF):

The Economic Capital Framework (ECF) was firstly introduced and developed in 2014-15 for determining the appropriate level of risk provisioning and surplus distribution under Section 47, RBI Act 1934.

The ECF committee was formed primarily for following key points :

  • To review status, need and justification of various provisions, reserves and buffers presently provided for by the RBI;
  • To suggest an adequate level of risk provisioning that the RBI needs to maintain;
  • To determine whether the RBI is holding provisions, reserves and buffers in surplus / deficit of the required level of such provisions, reserves and buffers; and
  • To suggest a suitable profits distribution policy as per the situations of RBI holding more provisions than required or RBI holding less provisions than required.

The intent of the review of key points of economic capital framework was to free surplus capital lying with RBI and make productive use of it by transferring it to the government.

i) Economic Capital:

Economic capital basically denotes the risk capital required by RBI to safeguard against different risks like market risks, operational risk, credit risks etc. The economic capital or risk capital also refers to the RBI reserves and holding of provisions and buffers required to cover unforeseen risks or contingencies or losses in the future.

ii) RBI Reserves:

These Reserves are called inter generational equity which is built up over several years saved from annual surplus by the RBI. These are country’s savings for a ‘Rainy Day’, which is monetary or financial crisis. It has following components:

  • Currency & Gold Revaluation Account (CGRRA) reflects the unrealized / notional gains / losses in values of foreign currencies and gold. It has been gone up substantially since 2010 at compounded annual growth rate (CAGR) of 25% to Rs. 691,641 crore in 2017-18.
  • Investment Revaluation Account (IRA) it reflects the unrealised gain or loss on the Mark to Market of foreign securities (IRA-FS) and of Rupee securities (IRA-RS).
  • Asset Development Fund (ADF) reflects the internal capital expenditure and investments in subsidiaries and associated institutions.

The ECF committee decided to not to touch and keep a major portion of Revaluation Reserves locked up and out of the reach of the government. The Currency & Gold Revaluation Account (CGRRA), which stood t Rs. 6.92 trillion at the end of June 2018 was decided not to be distributable to the government as these Reserves can not be used to bridge shortfalls in other reserves.

iii) Contingency Fund (CF) or Contingent Risk Buffer (CRB):

The Contingency Fund (CF), which is also known as Contingent Risk Buffer (CRB) reflects the savings and profits which are retained to meet unexpected contingencies. It is built up from retained earnings, which are kept as side over the years with a view to meet risks or losses in future. The level of CF was Rs. 232,108 crore around 6.9% in 2017-18.

iv) Realised Equity or Risk Provisioning :

The Realized Equity is the risk provisioning made primarily from retained earnings referred to as Contingent Fund (CF).

The Realised Equity level stood 6.8% as on June 2018, above the range of 5.5% – 6.5% for Contingent Risk Buffer (CRB) recommended by the Committee.

5. ECF Committee’s Surplus Distribution Policy Recommendations:

The ECF Committee decided a Surplus Distribution policy, based on target level of realized equity to be maintained by RBI within the overall level of it economic capital. The surplus distribution policy is formula based and so very transparent. The Contingent Risk Buffer (CRB) is calculated on formula based, which helps to decide the level of risk provisioning.

Following are the recommendations of the ECF Committee:

  1. i) Range of risk provisioning or CRB 5 to 5.5 %

The committee recommended to maintain the risk provisioning or Contingent Risk Buffer (CRB) within the range of 6.5% to 5.5%.

As on 30th June 2019, the risk provisioning (Realized Equity) stood at 6.8% of balance sheet, which was excess of risk provisioning i.e. ₹11,608 crore at the upper bound of CRB and ₹52,637 crore at the lower bound of CRB.

Out of range of 6.5% – 5.5%, the Central Board of RBI decided to maintain the realized equity level at 5.5% and to write back the excess risk provisioning of  ₹ 52,637 crore and transferred the amount to the Government.

  1. ii) Range of economic capital level as 24.5% to 20%

The committee recommended to maintain the economic capital level within the range of 24.5% to 20%.

As on 30th June 2019, the economic capital level stood at 23.3% of balance sheet, which was within the desired range (24.5% to 20%), therefore the entire net income of ₹1,23,414 crore for the year 2018-19 was decided by Central Board of RBI to transfer to the Government of India.

Following both the above recommendations of the ECF Committee, RBI decided to transfer a total surplus amount of ₹ 1,76,051 crore (52,637 + 1,23,414), out which an amount of  ₹28,000  crore was already paid to the Government. The remaining amount of ₹ 1,48, 051 crore will be transferred to the Government in coming months.

  1. Conclusion :

This unprecedented surplus fund transfer to Government not only gives huge additional funds to use but also lay lot of responsibility for optimum or best use of these funds. Government can use these surplus funds to productive and economic purposes to have a sustainable overall growth of India Economy. These additional funds can be prudently on investments instead of consumption so that developmental or economic growth can be achieved.

These funds can also be utilized to meet the probable shortfall or deficit in tax or revenue collection in FY 2020 as well as to meet the current fiscal deficit and provide fiscal stimulus to a sagging economy. It will also help to reduce the balance sheet as well as off balance sheet borrowings.

Besides, government budget and balance sheet, Government is also required to take care of RBI’s balance sheet. It also requires to manage debt, financial and monetary market carefully and to ensure RBI to have same or higher rise in interest income and total income as well as  increase in RBI Reserves and Contingent Funds so that higher earnings can be retained for future years too.

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