The new governor of RBI, who rose to fame when he predicted the US crisis, has a lot of work to do in cleaning up the economic mess in India.  Here is a list of things that Raghuram Rajan must do now to restore stability in the Indian economy

Raghuram Rajan, the new governor of Reserve Bank of India (RBI), faces challenges of enormous proportions. The RBI has been criticised like never before. Many experts believe that the Central Bank is primarily responsible for the ongoing economic woes in India. It all started with the overzealous approach of the previous governor, D Subbarao, to control inflation. Thirteen consecutive repo rate hikes killed the ability of economy to grow, while it failed to control inflation as well. The fascination of controlling wholesale price index (WPI) has not worked at all, as the entire country continues to reel under the negative impact of inflation. As if all this was not enough, the recent crisis of the depreciating rupee has exposed the hollowness of RBI measures. The new governor brings lots of hope and expectation. Here are some of the key challenges that the new governor needs to manage:

Trilemma of managing growth, inflation and currency: India's economy is at the crossroads-growth is slowing down, fear of double-digit inflation looms large with crude prices going up. The worst part is that the rupee is on a free fall. There are very few RBI governors in the past, which have faced this unique scenario called as trilemma, in which inflation along with currency needs management of enormous proportion without throttling down growth further. It is an open secret that the Indian economy can ill-afford to have 4.4% GDP growth (the last quarter GDP growth) on a long-term basis. This is far from the projected growth of 8%-9% visualized in 12th plan document.

So what is the solution?

The solution lies in propelling economic growth by attracting foreign investment and also ensuring that domestic growth picks up. In order to ensure that growth picks up, one key trigger is the cost of capital, which impacts investment environment.

Should RBI go ahead and cut the rate of interest by lowering the repo rate? This is the biggest dilemma. While RBI has recently taken measures to suck liquidity out of the economy to protect the fall in the rupee, any reversal of this can adversely impact the currency which is struggling to stay below Rs70 per dollar levels. But the growth cannot be achieved unless the liquidity is eased. In addition, inflation may go up further, if the interest rate is brought down. It has been seen in the past that monetary policy measures do not work in controlling inflation, as there are several supply side constraints.

In order to overcome this challenge on an immediate basis, there is very little that RBI can do alone. It needs to work in tandem with the government to ensure that measures are taken to attract foreign investment. This will be the first step in stabilising the currency. This is easier said than done. However, measures to attract foreign investment can be achieved by easing foreign direct investment norms. While this may take time, issuing sovereign bonds would help. As India needs dollars to flow into the economy to stabilise the rupee.

Customer focus of RBI: RBI as a Central Bank is not very customer friendly. Customers of banking services in India have to very often resort to legal measures to get justice. There are frequent cases of banks cheating investors and mis-selling products to the customers. The banking ombudsman, who was supposed to be the protector of customer's interest, works on dotted lines. Mangelal Sharma's case taken up by Moneylife is a case to justify the dotted line-approach of the banking ombudsman. There is a sense of helplessness amongst customers when they face any banking issue. Moneylife has taken up many issues on behalf of banking customers, which should have been ideally tackled by the regulator. The RBI looks completely understaffed to take care of customer's interest. The new governor needs to have a look at this.

Stringent mechanism to handle money-laundering cases: The Indian banking system is ill equipped to handle cases of money laundering. The regulator has been in 'denial mode' when it comes to widespread money laundering in the Indian banking system. Thanks to Cobrapost, the cases of money laundering were identified in many banks and RBI penalized 22 banks. But that was just the tip of the iceberg. The Indian banking system lacks adequate controls to check money laundered by politically exposed persons, through correspondent banking system and transfer of funds to tax havens. The know your customer (KYC) mechanism is based on the 'tick box' approach and lacks comprehensiveness to identify cases of money laundering. This is a serious issue, which deserves the attention of the regulator.

The new governor needs to have 'out of the box' thinking to manage macro economic variables at least till the time elections are held. It is very unlikely that the government will initiate changes that can turn the tide. However, the new governor needs to initiate measures to bring back Indian economy on track. It looks very difficult, but that is where the abilities of a suave, unflappable University of Chicago economist, Raghuram Rajan, will be tested.