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Informist, Thursday, Aug. 21, 2025

 

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--RBI releases discussion paper to review monetary policy framework 
--RBI seeks feedback on monetary policy framework review paper by Sept 18 
--RBI seeks view if headline CPI or core CPI best guide for monetary policy 
--RBI seeks view if 4% CPI aim optimal for balancing growth with stability 
--RBI seeks view if CPI target tolerance band should be revised 
--RBI seeks view if CPI target tolerance band should be done away with 
--RBI seeks view if inflation target level should be removed 

 

NEW DELHI – The Reserve Bank of India Thursday released a discussion paper on the review of the Monetary Policy Framework. The central bank has sought views on four questions, including whether the 4% inflation target remains optimal for balancing growth with stability in India.

 

The RBI has also sought views on whether the target inflation level should be completely removed and only a target range be maintained. The RBI has sought comments from stakeholders by Sept. 18.

 

"With an explicit point target, MPC (Monetary Policy Committee) members may differ in their chosen rate action because of differences in assessment of the economy," the RBI said in its discussion paper. "With range targeting, however, it may add an additional element of ambiguity with members having different perceptions of the target itself based on their individual economic assessments."

 

Any shift to a range may be interpreted as the mid-point being accepted as the central target, even though MPC may work around the full range, the RBI said. It could also be construed as a dilution of the existing framework and weakening of the commitment to price stability, eroding policy credibility, the central bank said. "This could be inconsistent with the trend inflation, which is estimated to be close to 4%."

 

The monetary policy framework was introduced in May 2016 with the implementation of the flexible inflation targeting framework. The government initially kept the inflation target at 4% with a tolerance band of 2-6% for the period 2016-2021. In the first review conducted in March 2021, the target and the range were retained for another five years, ending March 2026.

 

Since the flexible inflation targeting framework was implemented, headline CPI inflation has remained within the lower band of 2-4% for 11 quarters out of 35 and stayed within the upper tolerance band of 4-6% for 14 quarters. During 2020-2022, inflation was above 6% for nine quarters overall. "Thus, the quarterly distribution of inflation suggests continued volatility around the target of 4%," the RBI said. 

 

"If India had adopted a range targeting of 4-6% instead of 4% +/- 2% in 2016, the FIT (flexible inflation targeting) period would have seen failure on three occasions rather than one occasion so far. The additional two occasions would have been for undershooting the target range," the central bank said. 

 

The RBI has also sought feedback on whether the tolerance band around the target should be revised from the current 2-6% or even fully done away with. It said that the current tolerance band provides flexibility to account for shocks in prices of food, energy, and other volatile components, along with any forecast and measurement errors.

 

"It allowed the flexibility to manage growth-inflation trade-offs during the pandemic. Growth could be prioritised during the pandemic years even as inflation remained above the target," the RBI said. A counterargument in support of a narrower tolerance band, the central bank said, is that the volatility of the headline inflation has declined after the adoption of the inflation targeting framework.

 

The last question on which the RBI has sought views is whether headline inflation or core inflation would best guide monetary policy. "In India, a fundamental debate on whether to target headline or core inflation has been at the centre of the policy discourse on inflation targeting."

 

Even the government last year said that policy should be guided by core inflation, as food inflation is predominantly supply-driven and not under the direct purview of monetary policy. Former governor Shaktikanta Das, however, had said that removing food from the target benchmark of policy would amount to "not having a target". "It will make no sense to the average citizen, as it is the headline inflation that the common person understands and should remain that way," Das had said in 2024.

 

Any attempt to anchor inflation expectations should not ignore shocks to the prices of food and fuel items since they make up over 50% of the CPI basket, the RBI said. Excluding food and fuel may not yield a true measure of inflation for conducting monetary policy, and headline inflation, which is the closest proxy of the cost of living, may be more appropriate, the central bank added.  End

 

Reported by Shubham Rana

Edited by Saji George Titus

 

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