Following the runaway inflation of the 1970s and ’80s, defending the value of money became orthodoxy among most of the world’s central bankers. In the wake of the financial crisis, however, many quietly turned to fighting unemployment and stimulating economic growth instead. India has a rare exception in Raghuram Rajan, installed as the Reserve Bank of India’s 23rd governor in early September. After just two weeks on the job, Rajan surprised the world when he withdrew monetary stimulus and increased the bank’s short-term lending rate by a quarter point, to 7.5%.
Like Bank of England governor Mark Carney, Rajan, 50, has attained something approaching rock-star status. In 2003, he became the youngest-ever chief economist of the International Monetary Fund and, later, a celebrated University of Chicago finance professor. His prescient warnings on the risks of financial innovation during the pre-crisis years contributed to his sage reputation. Indian stock markets rallied following his inaugural speech, as did the rupee, reversing months of decline.
Rajan arrives at a moment when serious cracks have appeared in India’s two-decade growth story: last year the country’s economy sputtered and its currency slumped. The rupee’s decline quickened as global investors, betting on U.S. recovery, withdrew money from emerging markets, including India. Most observers expected Rajan to keep lending loose, charting a similar course to most of his central banker peers. His political masters might have preferred that—elections will be held next year.
But unlike his counterparts abroad, Rajan is facing 9% inflation. In the past he has advocated inflation targeting, in which the central bank sets overnight interest rates to promote lower, more stable inflation rates. It turns out he was serious. He was also remarkably frank about the U.S. Federal Reserve’s Sept. 18 decision to hold the course on its aggressive monetary stimulus. “Postponement of tapering is only that—a postponement,” Rajan warned. “We must use this time to create a bulletproof national balance sheet and growth agenda.”
Whether other Indian officials are listening remains unclear. Most of the country’s biggest challenges lie outside Rajan’s control. Prime Minister Manmohan Singh’s government has run persistently large deficits. More seriously, its reform agenda, which played such a crucial role in the country’s rise, has stalled. Without progress on such issues, pressures on Rajan to reverse course will surely mount.