Why in the News?
US President Donald Trump once threatened to remove Jerome Powell, whom he had appointed as the head of the Federal Reserve in 2018. Such disagreements between leaders and central banks have happened before in both the US and India, but they usually don’t turn into major problems.
What triggered Trump’s criticism of Fed Chair Jerome Powell?
- Disagreement Over Interest Rate Policy: Trump criticized Powell for raising interest rates, especially during times of economic uncertainty like the COVID-19 pandemic. He believed higher rates would hurt economic growth and his re-election prospects. Eg: In December 2018, Trump reportedly said Powell would “turn [him] into Hoover,” referencing Herbert Hoover, who led during the Great Depression.
- Fed’s Caution on Trump’s Tariffs: Powell warned that Trump’s trade tariffs could increase inflation and impact the labour market, which contradicted the President’s economic stance. Trump saw this as “playing politics.” Eg: On April 17, 2025, Trump posted online that Powell’s “termination cannot come fast enough!” and mocked him as “Too Late Jerome Powell.”
Who in U.S. history challenged the Fed’s independence, and why?
- Milton Friedman’s Influence (1970s–80s): The Nobel laureate economist argued that the Fed should be less discretionary and more rules-based, believing it often worsened economic cycles. Eg: Arthur Burns told Volcker that Friedman “wants to abolish the Fed (and) replace you with a computer.”
- Ronald Reagan’s Administration (1980s): Reagan’s advisers questioned the Fed’s independence, urging more accountability and clearer monetary targets due to high inflation and unemployment. Eg: In 1981, Reagan asked Fed Chair Volcker why the U.S. needed the Federal Reserve, reflecting pressure to align with government priorities.
- Donald Trump (2018–2025): Trump repeatedly attacked Fed Chair Jerome Powell for raising interest rates and criticized the Fed’s caution over his tariff policies, claiming they hindered economic growth. Eg: In December 2018, Trump expressed a desire to fire Powell, blaming him for risking a downturn like the Great Depression.
When was Section 7(1) of the RBI Act invoked, and why was it significant?
- Invoked in 2018 during Centre-RBI tensions: The Union Government reportedly invoked Section 7(1) for the first time in independent India amid differences with the RBI over issues like liquidity, lending to MSMEs, and the use of RBI reserves. Eg: The Finance Ministry sent at least three letters to RBI citing Section 7(1), asking the central bank to consult with the government.
- Significance – Questioned RBI’s autonomy: This move raised concerns about the erosion of the central bank’s independence, as the section allows the government to issue binding directions to the RBI in public interest. Eg: Critics saw it as a way to force the RBI to align with the government’s fiscal agenda, undermining its role as an independent regulator.
- Led to public fallout and resignation: The conflict led to the resignation of RBI Governor Urjit Patel, who stepped down citing personal reasons amid speculation of pressure from the government. Eg: Patel’s abrupt resignation in December 2018 came soon after Deputy Governor Viral Acharya warned of the dangers of compromising central bank independence.
How have Indian governments handled RBI conflicts in the past?
- Through backchannel negotiations and compromise: Successive governments have often resolved tensions with RBI through informal dialogue rather than confrontation. Eg: During the 1991 economic crisis, Finance Minister Manmohan Singh worked closely with RBI Governor S. Venkitaramanan to navigate reforms despite some policy disagreements.
- Avoiding use of Section 7(1) until 2018: Even in times of serious disagreement, governments historically refrained from invoking Section 7(1) of the RBI Act to respect the central bank’s autonomy. Eg: In 2008–09, during the global financial crisis, the government and RBI had different views on stimulus, but maintained cooperation.
- Occasional public spats but resolution behind closed doors: Disagreements sometimes came into the public domain but were eventually settled through internal discussions. Eg: In 2013, Raghuram Rajan’s monetary tightening clashed with the Finance Ministry’s push for growth, but no formal confrontation occurred.
- Appointments as a tool to align RBI’s stance: Governments have sometimes appointed RBI governors who are seen as more aligned with their economic philosophy. Eg: The appointment of Y.V. Reddy and later Raghuram Rajan was seen in part as reflecting the government’s evolving monetary and financial strategy.
- Post-conflict policy adaptations: After major conflicts, governments have occasionally adjusted policies or created frameworks to reduce future friction. Eg: Following the 2018 rift, the government and RBI set up a framework for the transfer of surplus reserves to avoid ad-hoc confrontations in future.
Way forward:
- Institutionalise a Conflict Resolution Mechanism: Establish a formal consultative framework between the Finance Ministry and RBI to address policy differences before they escalate. This could include regular high-level meetings and joint committees to ensure transparency and trust. Eg: A permanent Finance-RBI Coordination Council with defined terms could pre-empt confrontations like the 2018 episode.
- Clarify Autonomy Boundaries Through Legislation or Protocols: Amend or supplement existing laws like the RBI Act to define the scope of government intervention (like Section 7) and ensure it is used only under extraordinary circumstances. Eg: Introduce a statutory guideline requiring parliamentary review or expert panel consultation before invoking Section 7.
Mains PYQ:
[UPSC 2023] Explain the significance of the 101st Constitutional Amendment Act. To what extent does it reflect the accommodative spirit of federalism?
Linkage: Constitutional amendments affecting fiscal matters can have implications for the central bank’s role and its relationship with the government.
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