(Photograph Bloomberg)

Some two years ago he started asking himself: Why have Indians, who are such passionate, accomplished democrats, always chosen to be poor? The standard Marxist answer is that a dominant upper class has a vested interest in keeping the rest poor. He thought instead of three classes - employers, managers and workers. Competition would reduce costs and make everyone richer; but employers do not like it. Education would increase workers’ productivity, but it would increase competition for white-collar jobs, so managers do not like it. And without education, workers cannot get jobs that liberalisation generates, so they do not like reforms.

Last year he presented those ideas at a conference in Neemrana where ministers and their advisers hobnob with chiefs of research institutes and their economists. Montek Singh Ahluwalia heard him and thought, this man has a fertile mind. What might he come up with if we recruited him in our battle for inclusive growth? He talked to the prime minister and the finance minister; they joined his crusade. Faced by their combined forces, Rajan agreed. But he would not occupy a room in the Planning Commission; he was wedded to his professorship in Chicago. He would confine himself to the financial sector, his area of expertise. And he wanted a committee that would bring together the best minds and the best informed people in the financial sector. That is how the Committee on Financial Sector Reforms was formed. It put its draft report on the web a fortnight ago. The final report is some time away.

ASHOK V. DESAI

Tell me why the CFSR chose to have the people it did, rather than the usual bunch of bureaucrats and regulators. Would not their inclusion have made its recommendations more acceptable to the government?
The purpose of the CFSR was to propose serious, needed reforms, not just incremental change, and over a few years, not over the next few months. The belief was that if we had too many regulators and govern-ment officials on the committee, its recom-mendations would be anchored to the status quo. But it was also important that the recom-mendations be practicable, so we had many practitioners on the committee, including Om Bhatt, the reforming SBI chairman, Uday Kotak, one of India’s most knowledgeable financial entrepreneurs, Vijay Mahajan, a pioneer in microfinance, Zia Mody, one of India’s top corporate lawyers, and Jayanth Varma, a financial wizard. The other six members are leaders in their areas too. We spent the best part of a year deliberating, consulting widely with regulators, business-people, researchers, consultants, union leaders, politicians, etc. The report is a collective effort, not just by the committee, but by a wider selfless set of people who devoted considerable time to contribute what they thought was needed for the nation. My sense is that many of the recommendations will be implemented, though perhaps not with the urgency the committee feels.

Is not bad regulation a good argument for capital account inconvertibility? If the Reserve Bank and SEBI are wedded to their rule-based regulation and the government sees no way to reform them, should it not allow the Reserve Bank to manage the capital account with quantitative restrictions and arbitrarily changing rules?
Let me answer in three parts. First, I do believe that strong financial infra-structure can help reduce the costs associated with an open capital account. This includes not just good regulation but also other aspects like an effective bankruptcy code. Real flexibility, for example, on labour, would also help. And allowing more foreign participation in some areas can strengthen the infrastructure. For example, if foreign investors were allowed to set up asset reconstruction companies, we would have a much more resilient system in the event of widespread financial distress. They will have capital to bring in when the Indian financial system is in trouble, much as the US system is being rescued by sovereign wealth funds.

Second, I am not sure why you say arbitrary rules are a good thing when we have an inefficient infrastructure. It can make the system even more capricious.

Third, given that our trade is increasing so fast, and that the capital account is already so open, it is becoming virtually impossible to control flows through quantitative means – there are so many ways controls leak, as the bankers on our committee point out. Rather than experience a total loss of control over time, and also increased distortions as controls are evaded, why not liberalise in a way as to strengthen our systems?