WHY AND HOW DOES THE RBI TRANSFER ‘SURPLUS’ TO THE GOVERNMENT?

THE CONTEXT: The Reserve Bank of India (RBI) is expected to remit ₹ 2.5–3 lakh crore as surplus for FY 2024-25, eclipsing last year’s record remittance of ₹ 2.11 lakh crore. Such windfalls have outsized macro-fiscal effects: RBI transfers now equal ~0.8 % of GDP, rivalling the annual outlay of the Mahatma Gandhi National Rural Employment Guarantee Scheme (MGNREGS).

STATUTORY & INSTITUTIONAL FRAMEWORK:

Provision	Essence
RBI Act 1934, Section 47	Surplus (income minus expenditure) after provisioning “shall be paid to the Central Government.”
RBI Act 1934, Section 48	RBI is exempt from income tax, hence surplus = net transfer.
Economic Capital Framework (ECF)	Adopted in 2019 on the Bimal Jalan Committee's advice, fixes Contingent Risk Buffer (CRB) at 5.5-6.5 % of the balance sheet.

HOW THE RBI EARNS A SURPLUS:

1. Interest on Foreign Currency Assets (≈ 70 % of income) – US Treasury bills, German Bunds.

2. Coupon on Domestic G-Secs acquired via Open Market Operations (OMO).

3. Foreign-exchange (FX) Trading Gains – selling dollars during rupee defence; FY 2023-24 FX gains: ₹ 83,616 crore.

4. Commission for managing Central/State borrowings.

5. Liquidity Adjustment Facility (LAF) lending income.

EVOLUTION OF SURPLUS POLICY:

Phase	Key Committee / Event	Transfer Ratio (gross income basis)	Take-away
1991-2012	Internal norm (maintain Contingency Fund at 12 % of assets)	40-60 %	Build buffers post-BoP crisis.
2013	Malegam Technical Committee	99.9 %	Government’s liquidity crunch post-GFC; buffers drawn down.
2019	Bimal Jalan Committee → ECF	Rule-based (full surplus only if CRB ≥ 5.5 %)	Institutionalised risk-linked payouts.
2025	Internal Review of ECF underway	TBD	Scope to tweak the CRB band for post-pandemic volatility.

ECONOMIC CAPITAL FRAMEWORK (ECF):

• • The ECF, reviewed periodically, determines the risk provisioning and surplus distribution by the RBI. The framework ensures that the RBI maintains adequate capital to absorb potential losses while transferring the remaining surplus to the government.
  • The framework mandates the RBI to maintain a Contingent Risk Buffer (CRB) within a range of 5.5% to 6.5% of its balance sheet to safeguard against unforeseen financial contingencies.

MECHANICS OF SURPLUS TRANSFER:

1. Close of Accounts: The RBI’s financial year spans from July to June.

2. Net Income Calculation: Total income, primarily from interest on domestic and foreign assets, is offset by expenditures, including currency printing and staff salaries.

3. Provisioning:

• • • • Market Risk: Assessed using a 99.5% confidence level for expected shortfall.
      • Credit and Operational Risk: Provisioned at 1% of the balance sheet.

4. Assessment of CRB:

• • • • If CRB < 5.5%: Additional provisioning is made from profits.
      • If CRB > 6.5%: Excess is reversed, increasing the transferable surplus.

5. Board Resolution: In August, the Central Board finalizes the surplus amount to be transferred to the Consolidated Fund of India.

FACTORS CONTRIBUTING TO THE SWELLING SURPLUS:

1. Elevated Global Interest Rates: The RBI’s foreign assets, particularly U.S. Treasury securities, yielded higher returns due to sustained elevated interest rates by the U.S. Federal Reserve. This “higher for longer” rate environment enhanced the RBI’s interest income from its foreign investments.

2. Profitable Foreign Exchange (FX) Interventions: To stabilize the Indian rupee, which averaged around ₹85 per U.S. dollar, the RBI actively intervened in the FX market. By selling dollars acquired at lower rates, the central bank realized substantial trading profits, contributing significantly to the surplus.

3. Optimized Risk Provisioning: The RBI’s Contingent Risk Buffer (CRB) reached the upper threshold of 6.5% of its balance sheet, as stipulated by the Economic Capital Framework. Consequently, the need for additional provisioning was minimal, allowing a larger portion of net income to be classified as surplus.

4. Neutral Liquidity Operations: During FY 2024–25, the RBI maintained a neutral liquidity stance, resulting in muted losses from Open Market Operations (OMOs). This approach minimized expenditure, thereby augmenting the net surplus.

COMPARATIVE MATRIX: CAPITAL EXPENDITURE VS. FISCAL CONSOLIDATION

Dimension	Capital Expenditure (Capex)	Fiscal Consolidation
Objective	Stimulate economic growth, build long-term productive capacity	Reduce fiscal deficit and public debt for long-term macroeconomic stability
Economic Rationale	Acts as a growth pole by crowding in private investment	Ensures fiscal sustainability and avoids macroeconomic instability
Key Instruments	Investments in infrastructure: rail logistics, green hydrogen, rural roads	Reduction in gross market borrowing; rationalisation of expenditure
Theoretical Basis	Keynesian economics: Government spending boosts aggregate demand during downturns	Neoclassical view: Long-term growth requires stable debt and low inflation
Short-Term Impact	Generates employment, increases demand, boosts GDP	Improves bond market sentiment, lowers interest rates
Long-Term Impact	Enhances productivity, logistics efficiency, and environmental resilience	Reduces debt-to-GDP ratio, creates fiscal headroom for future crises
Multiplier Effect	High fiscal multiplier (1.8–2.5x in infrastructure sectors)	Lower multiplier in the short run, but strong fiscal signaling in the long term
Private Sector Effect	Can crowd in private investments, especially in under-invested sectors	Enhances private investment sentiment via macroeconomic stability
Risks Involved	Risk of inefficient allocation, time lags, and fiscal overreach	Slower recovery if consolidation is premature; risk of under-investment in public goods

THE ISSUES:

• • Volatility of Unrealised Revaluation Gains: A substantial portion of the RBI’s surplus stems from unrealised gains, particularly from foreign exchange (FX) reserves and gold holdings. These are recorded in the Currency and Gold Revaluation Account (CGRA). Distributing such volatile gains poses risks:

• • • Inter-generational Equity Concerns: Utilizing transient gains for immediate fiscal needs may burden future generations during downturns.
    • Balance Sheet Integrity: Over-reliance on these gains can compromise the RBI’s financial resilience during economic shocks.

• • The Bimal Jalan Committee emphasized the need for a clear distinction between realized and unrealized gains to ensure prudent fiscal management.

• • Inadequate Stress Testing for Emerging Risks: The current ECF’s Contingent Risk Buffer (CRB) primarily addresses traditional financial risks. However, emerging challenges necessitate a broader perspective:

• • • Climate-Related Financial Risks: Physical risks (e.g., extreme weather events) and transition risks (e.g., policy shifts towards a low-carbon economy) can impact financial stability.
    • Cybersecurity Threats: Increasing digitalization exposes the financial system to cyber-attacks, potentially leading to systemic disruptions.

• • Transparency and Public Accountability: The technical nature of the ECF and surplus transfer processes can obscure public understanding:

• • • Complex Methodologies: The intricate calculations involved in determining surplus transfers may not be easily comprehensible to the general public.
    • Limited Public Disclosures: While the RBI publishes annual reports, a simplified explanation of the surplus transfer mechanism could enhance transparency.

• • Centre–State Fiscal Dynamics: The distribution of the RBI’s surplus exclusively to the central government raises concerns:

• • • Exclusion from Divisible Pool: Unlike tax revenues shared under Article 270 of the Constitution, the RBI’s surplus is not part of the divisible pool, leading to perceptions of fiscal centralization.
    • State-Level Fiscal Pressures: States argue that their increasing expenditure responsibilities warrant a share in such windfalls.

• • Governance and Oversight Mechanisms: The current oversight of the RBI’s surplus transfer process is primarily internal, with limited parliamentary scrutiny:

• • • Parliamentary Committee on Finance: While this committee oversees financial matters, its engagement with the RBI’s surplus transfer decisions is minimal.
    • Proposed Monetary-Fiscal Interface Panel: Establishing a dedicated panel comprising representatives from the RBI, Ministry of Finance, and independent experts could enhance checks and balances without compromising the RBI’s autonomy.

THE WAY FORWARD:

• • Codify Surplus Utilization in the FRBM Act: Amend the Fiscal Responsibility and Budget Management (FRBM) Act to mandate that at least 70% of any windfall surplus from the RBI be allocated towards fiscal deficit reduction or public debt buybacks.
    • The FRBM Act emphasizes inter-generational equity and fiscal sustainability. The International Monetary Fund (IMF) has also underscored the importance of adhering to fiscal consolidation paths to maintain macroeconomic stability.
  • Establish a Sovereign Stability Fund (SSF): Create a Sovereign Stability Fund within the Consolidated Fund of India, wherein surplus amounts exceeding the upper threshold of the Contingent Risk Buffer (CRB) are automatically credited. Access to this fund should be restricted to periods of systemic crises, with withdrawals contingent upon concurrence from both the Monetary Policy Committee (MPC) and a proposed Fiscal Council.
    • Countries like Norway have successfully implemented sovereign wealth funds to manage resource revenues prudently, ensuring long-term fiscal stability.
  • Implement a Dynamic Contingent Risk Buffer (CRB) Framework: Revise the CRB mechanism to be dynamic, linking its lower bound to indicators such as the credit-to-GDP gap and foreign exchange (FX) volatility indices.
    • The Bank for International Settlements (BIS) advocates for the use of credit-to-GDP gaps as early warning indicators for banking crises, emphasizing the need for adaptive risk buffers.
  • Introduce a State Matching Grant Scheme: Allocate 10% of the RBI’s surplus to provide 50-year, interest-free capital expenditure (capex) loans to fiscally prudent states. Eligibility should be based on adherence to fiscal responsibility norms and successful implementation of structural reforms.
    • The Union Budget 2024-25 earmarked ₹1.3 lakh crore for 50-year interest-free loans to states for capex, highlighting the central government’s commitment to supporting state-level infrastructure projects.
  • Integrate Surplus Projections into the Medium-Term Fiscal Policy Statement: Mandate the inclusion of a three-year rolling projection of RBI surplus transfers in the Medium-Term Fiscal Policy Statement, jointly endorsed by the RBI and the Ministry of Finance.
    • The FRBM Act requires the government to present medium-term fiscal policy statements, and incorporating surplus projections would further strengthen fiscal accountability.
  • Diversify the RBI’s Reserve Portfolio with Green Bonds: Gradually increase the RBI’s investment in high-grade supranational green bonds, ensuring that such diversification does not compromise liquidity or safety.
    • The BIS has highlighted that integrating green bonds into reserve portfolios can improve risk-adjusted returns without sacrificing safety or liquidity.
  • Legislate Annual ‘Surplus Transfer Reports’ to Parliament: Enact legislation requiring the RBI to submit an annual ‘Surplus Transfer Report’ to Parliament, detailing the rationale, calculations, and utilization of surplus funds.
    • The United States Federal Reserve submits semi-annual monetary policy reports to Congress, exemplifying the importance of central bank accountability.

THE CONCLUSION:

A rule-based, transparent surplus-distribution policy—anchored in the Economic Capital Framework and buttressed by FRBM discipline—can convert today’s bounty into tomorrow’s resilience. By combining deficit compression, targeted capital expenditure, and a rainy-day Sovereign Stability Fund, the Government can maximise developmental multipliers while safeguarding macroeconomic stability. The imperative is clear: harvest the fruit, but do not chop the tree.

UPSC PAST YEAR QUESTION:

Q. The public expenditure management is a challenge to the government of India in the context of budget-making during the post-liberalization period. Clarify it. 2019

MAINS PRACTICE QUESTION:

Q. The Reserve Bank of India’s record surplus transfer offers fiscal headroom, but not without structural risks. Critically examine the implications of RBI surplus transfers to the government.

SOURCE:

https://indianexpress.com/article/explained/explained-economics/rbi-transfer-surplus-dividend-government-policy-10010545/

Spread the Word