×

UPSC Courses

editorial plus

Editorial Plus

Reinforcing RBI’s accountability

  • 04 November, 2020

  • 5 Min Read

Reinforcing RBI’s accountability

Context:

  • The article analyzes the inflation targeting role played by the Reserve Bank of India.

Inflation targeting in India:

  • Inflation targeting is a monetary policy strategy used by central banks for maintaining inflation at a certain level or within a specific range.
  • With many central banks adopting it, inflation targeting has emerged as an important monetary policy framework.
  • This approach was in contrast with the multiple indicator approach that predated this inflation targeting framework where the central bank focused on both growth and price stability.

Monetary Policy Committee:

  • In 2016, the Reserve Bank of India (RBI) signed an agreement with the Indian government that led to the creation of the first-ever monetary policy committee (MPC) in the country. The MPC was given the target of keeping inflation at 4% with a tolerance limit of 2%, over the next five years till 2021. This meant that inflation should be between 2% and 6%.
  • Average inflation overshooting the upper tolerance level or remaining below the lower tolerance level for any three consecutive quarters constitutes a failure to achieve the inflation target.
  • In case of failure to achieve the inflation target, the Reserve Bank of India (RBI) is required to send a report to the Centre, stating the reasons for the failure to achieve the inflation target, the remedial actions it proposes to initiate, and an estimate of the time period within which it expects to achieve the inflation target through the corrective steps proposed.
  • The report is aimed at ensuring enhanced transparency and accountability of the RBI in its inflation targeting role.

Issues:

  • In the last three quarters of the current financial year, average inflation has exceeded the target remaining above the upper tolerance limit set by the Centre.
    • Inflation, as measured by the consumer price index (CPI), was 6.7% in the January-March quarter, 6.6% in the April-June quarter (based on imputed data) and 6.9% in the July-September quarter.
  • The MPC in its August policy review has cited the lack of adequate and quality data and called for a break in the CPI series for the purpose of monetary policy decisions and exempting the RBI from complying with the requirement of writing to the Finance Ministry, explaining why inflation missed the set targets.
  • The normal data collection exercise of the National Statistics Office was disrupted during the lockdown imposed due to the COVID-19 pandemic.
  • The justification of data complications does not hold ground due to the following reasons:
    • There has been a continuous upward trend in the inflation figure. The break that the MPC referred to is not visible in the inflation data. The data for the last four quarters — 5.8%, 6.7%, 6.6%, 6.9% — appear continuous.
    • The range around the inflation target (+/- 2%) provided to the RBI is for accommodating constraints and challenges like data limitations, projection errors, short-run supply gaps and fluctuations in the agriculture production.

Questions on the inflation-targeting regime:

  • Of late there have been calls from certain sections questioning the desirability of persisting with the inflation-targeting regime.
  • Such an approach would only help artificially prop up numbers like business revenues and profits, or tax collection figures but would not be good economically in the longer run given the experience in some economies. Price stability is equally important as growth.

Way forward:

  • RBI should not be allowed to side-step the institutional mechanism provided under the RBI Act. RBI must abide by the law and apprise the Centre of why it failed to control inflation and what measures it intends to take.
  • Transparency can enable more informed decision-making within the government, greater public scrutiny of the RBI’s performance, and an improved inflation-targeting regime. This would also help improve the credibility, transparency and predictability of monetary policy.

Source: TH

Toppers

Search By Date

Newsletter Subscription
SMS Alerts

Important Links

UPSC GS Mains Crash Course - RAW Prelims Answer Key 2024