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Informist, Monday, May 18, 2026

NEW DELHI – The Reserve Bank of India's approach is to try and attempt to look through the first-round impact of a supply-side shock to the economy that leads to higher prices. However, if a sustained increase in prices drives up wages, production and transportation costs, that approach is no longer optimal and requires tighter monetary policy, RBI Governor Sanjay Malhotra said at an event last week.

"We are keeping a close vigil on whether and when the supply shock can become embedded in the general price level that may warrant monetary policy action," Malhotra said during a panel discussion at a conference organised by the Swiss National Bank and the International Monetary Fund on May 12. The discussion was titled 'Monetary Policy in a Time of Heightened Uncertainty'.

The decision on whether or not to "look through" the impact of higher prices depends on the duration of inflation and whether it is generalised, the RBI governor said. He said the Indian central bank had been transparent and communicated the conditions under which it would tighten monetary policy. 

Brent crude prices have shot up since late February after the outbreak of war in West Asia effectively shut the Strait of Hormuz. India's supply chains have been thrown into disarray, both as a significant importer of the commodity and trade partner with West Asian countries. The "supply shock" has so far largely reflected only in wholesale price inflation in India, hitting a 42-month high of 8.30% in April, while the RBI targets price stability as measured by CPI inflation. Retail inflation in April was only 3.48%, lower than the RBI's 4% target, but is likely to rise starting May after the government hiked prices of petrol and diesel by INR 3 each Friday.

Sharp monetary policy tightening in the face of a transitory supply shock can magnify the loss of the output while a delay is taking steps can unhinge inflation expectations and make it difficult for central banks to rein in prices, the RBI chief said. In this regard, the RBI's wide tolerance band of 200 basis points on either side of its 4% target allows it to flexibly deal with volatility from the current supply shock while also allowing it to focus on its medium-term goal of price stability.

"To be effective, central banks must be flexible enough to handle the immediate impact of shocks without losing sight of the medium-term goal," Malhotra said. "Moreover, they need to clearly explain the trade-offs to maintain credibility without adhering rigidly to short-term targets." India's longer target horizon, where inflation must be above or below the tolerance band for three straight quarters, also adds to the RBI's flexibility, Malhotra said.

He noted that central banks globally have distinguished between transitory inflation spikes and core inflation trends to avoid pre-emptive policy tightening. The RBI began publishing core CPI estimates starting with the April policy and Malhotra has noted inflation excluding the prices of precious metals, which have shot up over the past year, in the recent meetings of the RBI's Monetary Policy Committee. India is used to dealing with supply shocks emanating from the food basket, while globally central banks have learnt to deal with uncertainty, Malhotra said.

The RBI governor said monetary and fiscal policy must coordinate closely to deal with shocks as central bank alone are not enough to handle supply-side bottlenecks. Such shocks also make it more important to incorporate a wider variety of data points in the RBI's decision making and raise the importance of a data-dependent, meeting-by-meeting approach, he said. The flexibility and nimbleness of the RBI's MPC was ingrained in its 'neutral' policy stance, the head of the committee said.

"Summing up, faced with supply shocks and uncertainty, it is important that policy frameworks focused on price stability are flexible enough to allow central banks to look through transitory shocks while remaining agile and nimble, maintaining a broad policy stance, and avoid making firm commitments on the future path of policy," Malhotra said.  End

Reported by Aaryan Khanna

Edited by Akul Nishant Akhoury

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