Missing Inflation Target

Missing Inflation Target

Subject : Economics

Context : RBI Governor Shaktikanta Das says letter to govt on missing inflation target will not be made public.

Concept:

• RBI Governor Shaktikanta Das called the communication between the central bank and government privileged and said that the letter that it would be writing for missing inflation targets will not be made public.
• This will be the first time since the onset of the medium-term inflation targeting framework in 2016 that the RBI will be made to explain its actions in a letter.
• Inflation Target: Under Section 45ZA, the Central Government, in consultation with the RBI, determines the inflation target in terms of the Consumer Price Index (CPI), once in five years and notifies it in the Official Gazette. Accordingly, on August 5, 2016, the Central Government notified in the Official Gazette 4 per cent Consumer Price Index (CPI) inflation as the target for the period from August 5, 2016 to March 31, 2021 with the upper tolerance limit of 6 per cent and the lower tolerance limit of 2 per cent. On March 31, 2021, the Central Government retained the inflation target and the tolerance band for the next 5-year period – April 1, 2021 to March 31, 2026.
• Section 45ZB of the RBI Act provides for the constitution of a six-member Monetary Policy Committee (MPC) to determine the policy rate required to achieve the inflation target.
• Failure to Maintain Inflation Target: The Central Government has notified the following as the factors that constitute failure to achieve the inflation target: (a) the average inflation is more than the upper tolerance level of the inflation target for any three consecutive quarters; or (b) the average inflation is less than the lower tolerance level for any three consecutive quarters.
  Where the Bank fails to meet the inflation target, it shall set out in a report to the Central Government:
  a. the reasons for failure to achieve the inflation target;
  b. remedial actions proposed to be taken by the Bank; and
  c. an estimate of the time-period within which the inflation target shall be achieved pursuant to timely implementation of proposed remedial actions.
• The operating framework of monetary policy aims at aligning the operating target – the weighted average call rate (WACR) – with the policy repo rate through proactive liquidity management to facilitate transmission of repo rate changes through the entire financial system, which, in turn, influences aggregate demand – a key determinant of inflation and growth.

Monetary Policy Committee:

• The Monetary Policy Committee is a statutory and institutionalized framework under the Reserve Bank of India Act, 1934, for maintaining price stability, while keeping in mind the objective of growth.
• The Governor of RBI is ex-officio Chairman of the committee.
• The committee comprises six members (including the Chairman) – three officials of the RBI and three external members nominated by the Government of India.
  • The government nominees to the MPC will be selected by a Search-cum-Selection Committee under Cabinet Secretary with RBI Governor and Economic Affairs Secretary and three experts in the field of economics or banking or finance or monetary policy as its members.
  • Members of the MPC will be appointed for a period of four years and shall not be eligible for reappointment.
• The MPC determines the policy repo rate required to achieve the inflation target.
• The MPC is required to meet at least four times in a year. 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.
• Each Member of the Monetary Policy Committee writes a statement specifying the reasons for voting in favour of, or against the proposed resolution
• Decisions are taken by majority with the Governor having the casting vote in case of a tie.
• The MPC determines the policy interest rate (repo rate) required to achieve the inflation target (4%).