Inflation target breach

Inflation target breach

Subject: Economy

Why in the news?

CPI-based inflation is expected to remain above the 6 per cent upper limit in the July-September quarter too.

Details:

• The average retail inflation in January-March 2022 and April-June 2022, according to data released by the National Statistics Office, was 6.34 per cent and 7.28 per cent, respectively. 
• In July it was  6.71 per cent. 
• The data for August and September is scheduled to be released on September 12 and October 12, respectively.
• The RBI’s retail inflation outlook for July-September was 7.1 per cent. And  it was 6.4 per cent for October-December 2022 and 5.8 per cent for January-March 2023.

What happens next?

• The RBI has multiple roles, but it’s accountable for one primary objective — keeping inflation within a flexible range of 2 per cent to 6 per cent.
• The flexible inflation targeting made the RBI more accountable to explain to the government if it fails to meet the inflation targets.
  • A breach of the “tolerance level” for three consecutive quarters will constitute a failure of monetary policy
• When the Reserve Bank of India fails to meet the inflation target for 3 consecutive quarters, it will send a report to the central government stating:
  • reasons for the breach/failure of monetary policy
  • propose remedial actions to bring it down to 4 per cent, and
  • provide an estimate of the time-period within which the target would be achieved.
• These would be presented in a report to the Union Ministry of Finance.
• It would be up to the government to make the RBI report public.
• The special meeting of the MPC will discuss the RBI report before it is submitted.

Flexible inflation Targeting:

• Inflation Targeting is a monetary policy framework wherein the Central Bank of a country focuses only on maintaining the rate of Inflation within a targeted range.
• Flexible inflation targeting is adopted when the central bank is to some extent also concerned about other things, for instance, the stability of interest rates, exchange rates, output and employment.
• In case of India, the flexible Inflation targeting was introduced through the Monetary Policy Framework Agreement signed between the RBI and Government in 2015.
• The Reserve Bank of India Act, 1934 was amended to provide a statutory basis for a FTI framework.
• The amended Act provides for the inflation target to be set by the Government, in consultation with the RBI, once every five years.
• As per terms of the agreement, RBI’s primary objective would be to maintain price stability, while keeping in mind the objective of growth.
• The RBI is required to maintain a rate of inflation of 4% with a deviation of 2% i.e. inflation has to be maintained between 2% to 6%.
• The Monetary Policy Committee (MPC) constituted by the Central Government under Section 45ZB of RBI Act determines the policy interest rate required to achieve the inflation target.
  • Accordingly, the Central Government in September 2016 constituted the MPC as under Governor of the Reserve Bank of India – Chairperson, ex officio;
  • The MPC is required to meet at least four times in a year.
  • The composition of the MPC is as follows;
    • Governor of the Reserve Bank of India – Chairperson, ex officio;
    • Deputy Governor of the Reserve Bank of India, in charge of Monetary Policy –
    • (Member, ex officio)
    • One officer of the Reserve Bank of India to be nominated by the Central Board – Member, ex officio;
    • Except ex-officio members, three independent members will hold the office for a period of 4 years or until further orders, whichever is earlier.
  • The quorum for the meeting of the MPC is four members. Each member of the MPC has one vote, and in the event of an equality of votes, the Governor has a second or casting vote.