Institutions: Independent Decay or Decaying Independence?

In the present decade, we have seen an unprecedented amount of writing on the decay of institutions worldwide – whether it is the media or the courts or the legislatures. – from New Delhi to the Washington, from Brussels to Westminster. Commentators and critics lament the hollowing out of institutions that had been presumed to be bedrocks of constitutional democracy especially after World War II. The inability of these structures to stem the tide of illiberal, personalized, cult-based governments has evinced some surprise, even introspection, in the promoters of liberal democracy.

Newspaper columns, essays, editorials and even some books are filled with historical analysis of institutions – their origins, their structures, their functions and their present decay. Most of this is quite convincing and seemingly accurate. But they only present a part of the story. A lot of commentary presumes institutions as stand-alone setups that function above the dynamic of everyday politics. For example, the Election Commission of India was assumed to be an ‘apolitical’ for long time. Now, the liberal intelligentsia in India find that adjective to be false.

Similarly, prominent commentators have time and time again cast the personal shortcomings of some institutional leaders as exceptions. For example, the former Chief Justice of India Deepak Mishra was seen as an aberration who would be repaired over by his successor, Justice Ranjan Gogoi. Many editorials who praised him while he was CJI in waiting now have much to complain about him. Moreover, suddenly the Supreme Court of India looks like a palace of intrigue.

On the other hand, the former RBI governor Raghuram Rajan was a darling of the liberals as much for his policy decisions as his comments on socio-political issues. RBI, it seemed during his tenure, could do no wrong. His successor Urjit Patel, who was initially seen as a timid bureaucrat, suddenly found himself being praised for standing upto the incumbent government. His successor Shaktikanta Das has had no such turn in fortune.

It would seem from these example and those from around the world that the persons leading the institutions are just as important as the artifice of the institutions themselves. That is certainly true. However, the political dynamics and ideological contests that surround institutions are just as important, and often ignored by commentators. Do institutions matter? Yes, they do. But people that lead them and their ideas matter just as much.

Take the example of the ECI. The lament of its ‘decay’ from a strong force of impartiality to its shortcomings in the present sometimes conveniently forgets the political struggle that created its strength – under the leadership of T. N. Sheshan, the support of Supreme Court and popular belief in ECI’s newly acquired powers to ensure free and fair elections. It did not stop there, there was a change in the lexicon of Indian electoral democracy – Model Code of Conduct, which had to be adhered to no matter what. What we have failed to appreciate while this became the norm is that it was not an event, but a dynamic process that brought us to a place where out expectations from ECI had changed – it was and continues to be a struggle to keep the elections free and fair. ECI does not exist outside the realm of everyday politics. Its officers are not objective robots but subjective bureaucrats. It is not an independent, autonomous body but an inter-dependent, constrained institution that depends as much on the courts and popular support as it does on the some of the very people it is supposed to keep in check – the powerful leaders in government.

Similarly, the Supreme Court of India is a case in point. It would appear from commentary that the SC has suddenly taken a turn towards decay. Presumably, it was a fine institution earlier. What this ignores is that the roots of today’s decay lie precisely in the fineness of the court in the preceding period. This was underlined by an unprecedented power-grab by the court – to appoint its own members, justified by the inability of Indian politicians to be sensible and popular resentment against them. While the ‘collegium’ temporarily solved some problems, it created a facade of independent judiciary without oversight by the people’s representatives. Today, the same independence that was applauded and institutionalized has created a situation where a sitting judge can be a judge in his own case without the slightest bit of irony. Not just that, it has created a situation where the political executive can exploit these gaps and shortcomings to its advantage while preaching the rhetoric of judicial independence when suitable.

The example of RBI is even more baffling. While a major headliner in the limited reaches of the financial press, the RBI Governor wasn’t a figure of media commentary until Raghuram Rajan became the Governor. And suddenly the person holding the post has become a thing of daily news. However, the previous ignorance and the recent stardom of the RBI fails to capture the institution of India’s central bank in its entirety. While 1991 liberalization is seen as a major step in opening India to global trade, its role in changing RBI’s functions is only mentioned in passing. Moreover, the changed financial market landscape in which RBI functions today means that its institutional dynamic with the government with the central governments is vastly different from what it was two or three decades ago. At the same time, the ideological bent of Indian economists and financial commentators has changed – the institutional expectation from RBI is therefore not the same. At the same time, the role of political executive has been made more prominent via the monetary policy committee (MPC) – away from the singular role of the Governor in monetary policy. But that is not all that RBI does. In a globalized and digitized financial landscape, there is a struggle between government and the RBI for jurisdiction over emerging arenas. This makes the RBI board and the RBI Act important structures – both of which remained outside common public discourse until recently.

These examples should suggest that institutions are neither autonomous nor independent. Neither should we want them to be. They are dependent – on their leaders, on other institutions, on people, on ideas, on precedents, on political dynamics and on many other things. To narrow them down to just their leaders or just their independence is both disingenuous and naive. They reflect a tenuous social contract that emerges after every small struggle for power and for ideas – one that happens at all times and that is shaped by a variety of potent forces that make the adjectives ‘autonomous’ and ‘independent’ seem childish and hollow.

The Financial Crisis: Repo and the modern ‘Bank Run’

Repo is a repurchase agreement in which a bank buys a security and pays for it by selling it to an investor for a small period of time, with a promise to repurchase it back at a price. As Tooze writes, “The investment bank would buy $100 million in securities and repo them with a mutual fund or another investment bank, with the party repoing the paper paying a small interest charge to the investor it was repoing with. It also accepted a haircut. In exchange for $100 million in Treasurys, it did not receive full value, but only $98 million in cash. It would also repurchase them for $98 million. In the meantime, the haircut determined how much of its own money the investment bank would have to put into holding the securities, and thus the leverage in the deal. A 2 percent haircut meant that to fund the purchase of $100 million of securities and to receive the interest paid on those bonds, a bank would need $2 million of its own money. The rest it could get out of the repo transaction.”

This mechanism allowed for big balance sheets with much smaller capital, provided the repo could be continuously rolled over and the haircuts did not rise suddenly. Both these conditions reversed during the crisis. Trillions of dollars of collateral were posted in repo markets, with the private label MBS in bilateral repo market which was thrice the size of triparty repo market. When an investment bank suffered huge losses on its portfolio, the private label MBSs as an asset class lost confidence as collateral for rolling over repo – a general loss of confidence such that the banks found themselves shut out of funding. As Tooze puts it, “If any one of these investment banks was to lose access to the repo markets, at a stroke its business model would collapse, taking its entire balance sheet—not just its MBS business, but its derivatives book, currency and interest swaps—down with it.”

This was exactly what happened. In Tooze’s description: “When news of a new round of mortgage failures hit the markets in March 2008 and hedge funds began emptying their prime brokerage accounts, quite suddenly the haircuts Bear Stearns faced in the bilateral repo market steepened and access to trilateral repo funding was shut off. A bank that in early March had easily been able to raise $100 billion overnight in exchange for good collateral could no longer fund itself.” There was no price adjustment in the triparty repo market while funding terms were getting stiffer and stiffer in the bilateral repo market. This was the so-called ‘run on the repo’. Unlike the old-fashioned ‘bank run’ where depositors rush to get their cash out from their accounts, there were no queuing depositors to be seen but a withdrawal of liquidity from the repo market which precipitated the crisis.

References:

  1. Tooze, A. (2018). Crashed: How a decade of financial crises changed the world. Penguin.
  2. Kapadia, A. (2019). Capitalism: Theories, Histories and Varieties, HS 449 (Class Slides). IIT Bombay, delivered Jan – Apr 2019