India’s inflation targeting framework kept unchanged for next five years

“Inflation targeting for the period 2021-2026 under the Reserve Bank of India Act, 1924 has been kept at the same level as it was for the previous five years. There is no change,” economic affairs secretary in the finance ministry Tarun Bajaj told reporters on Wednesday.

When asked whether core inflation has been introduced as an additional index to monitor as advised by some experts, Bajaj replied in the negative. “It is the same,” he added.

The central bank has supported maintaining the existing inflation target of 4% within a band of 2 percentage points. “The current numerical framework for defining price stability, i.e., an inflation target of 4% with a +/-2 per cent tolerance band, is appropriate for the next five years,” Reserve Bank said in a report on currency and finance (RCF) for the year 2020-21 released in February. However, it had also suggested that some aspects of the framework be reviewed, including the time horizon to meet the inflation target and the process of selecting members to the MPC.

The six-member MPC, headed by the RBI Governor, decides on the monetary policy keeping in mind this inflation target band.

Madhavi Arora, lead economist at Emkay Global said while flexible inflation targeting (FIT) regime did serve its purpose and also indirectly gave more independence to MPC, there could have been some merit in relooking the framework in a more broader sense especially as the current crisis uncovered the limitations and inadequacies of FIT amid various policy conundrum such as economic and rates asymmetry; patchy relationship between interest rates, liquidity and inflation; and policy trade-offs in variables such as external sector, FPI flows, financial stability etc. “A more pragmatic and integrated approach may still be the answer to the intertwined policy objectives,” she added.

Bajaj said government will frontload its borrowing calendar for FY22 and borrow 60% of ₹12.55 trillion gross borrowing target for FY22. “In the first half of the year, we would be borrowing 7.24 trillion in the first six months which is 60.06% of the gross issuances in the year FY22. This will be in all the segments, that is, 2 years, five years, 10 years, 14 years, 30 years and 40 years securities,” he added.

However, Bajaj said he does not foresee any pressure on yield due to rising inflation level and hopes the central bank will take necessary steps to keep borrowing cost within limits.

Indiaʼs CPI rose to 5% in February, from 4.1% in January as the pace of food and fuel price rises accelerated to 3.87% and 3.53%, respectively. The central bank’s latest monetary policy in February had cautioned that the slowing of inflation could be short-lived with increased pass-through to output prices as demand normalizes and firms regain pricing power. It marginally raised the inflation forecast to 5-5.2% from 4.6-5.2% for the first half of the next fiscal year while drawing comfort from slower food inflation.

Moody’s Analytics in a report released on Tuesday said inflation is worrisome in India. “Retail inflation has held above the Reserve Bank of Indiaʼs 4% target for the past eight months. Indiaʼs core CPI (excludes food, fuel and light) was up 5.6% in February, from 5.3% in January. Volatile food prices and rising oil prices led Indiaʼs CPI to exceed the upper band of 6% several times in 2020, inhibiting the RBIʼs ability to keep accommodative monetary settings in place during the height of the pandemic. Higher fuel prices will keep upward pressure on headline CPI and keep the RBI from offering further rate cuts,” it added.