The Reserve Bank of India’s (RBI’s) inflation targeting regime has worked well and need not be abandoned in favour of a more discretionary regime that could be risky and counterproductive, a new research paper has said.
The paper titled ‘Inflation Targeting In India: A Further Assessment’ said the weight of food-price inflation in the CPI inflation basket should be reduced to better reflect the circumstances of Indian households.
“The RBI’s inflation targeting regime has worked well. Given this record, radical changes such as broadening its mandate or abandoning the target in favour of a more discretionary regime would be risky and counterproductive,” it said.
The paper is authored by economists Barry Eichengreen (University of California, Berkeley) and Poonam Gupta (NCAER).
In contrast, the paper noted that the 4 per cent point target, +/-2 per centage point tolerance band and focus on headline inflation remain broadly appropriate.
“That said, the regime can be tweaked to improve performance,” it suggested.
The government and the RBI signed an inflation-targeting agreement in February 2015 and amended the RBI Act in May 2016.
The inflation target was set by the government in consultation with the RBI with the possibility of revisiting it after five years.
Accordingly, the government announced, via the Official Gazette, 4 per cent Consumer Price Index (CPI) inflation as the target from August 5, 2016, with an upper tolerance limit of 6 per cent and a lower limit of 2 per cent.
For most part, the paper pointed out that targets set under the inflation-targeting agreement have been met; and on almost all counts, it has performed as envisaged.
“It has been only once that inflation exceeded the upper tolerance band of 6 per cent for three consecutive quarters (during January 2022-September 2022),” the paper said.
According to the paper, evidence points to improved outcomes during inflation targeting.
“Inflation is lower and less volatile; inflation expectations are better anchored, and the transmission of monetary policy is more effective,” it said.
Recently, Chief Economic Advisor V Anantha Nageswaran had pitched for excluding food inflation from the rate setting calls, saying that the monetary policy has no bearing on the prices of food items, which are dictated by supply side pressures.
