Wake-up call for RBI's monetary policy committee

When it began its first innings in October 2016, the six-member Monetary Policy Committee (MPC) appeared imperial in power to control the cost and supply of money simply by adjusting policy rates. But with headline inflation breaching the 4% target for three quarters in a row, blurring the line between promise and performance, the MPC now seems somewhat powerless. The three external appointees are also ending their four-year term with a whimper than a bang, though they have the right and luxury to blame Covid-19 and supply-side shocks. 

Billed as one of the rare reforms in India’s financial sector, the modern monetary policy framework worked true to its spirit until recently. Between August 2016 and March 2020, the average inflation rate was well below 4%, but several argue that this came at a high cost. The committee’s collective expertise was expected to make the whole greater than the sum of parts, but monetary transmission continues to be pedantic.

While the government  considers allowing them extra time or appointing new members, there’s growing criticism on whether the MPC failed in its brief and if India needs an inflation targeting regime in the first place. It must be noted that the proposed review next March pertains to the inflation target and not the framework itself, as the latter causes policy uncertainty.

But authorities must consider whether the inflation target band should be increased, while the measure of inflation itself should be up for discussion. Most countries take Consumer Price Index (CPI) citing better and wider data collection including services, but the prickly question is if the volatile food inflation will be included.

The Bank of Thailand, which first targeted core inflation in 2000, retreated to CPI 15 years later, concluding that cost of living matters to the common people, not food prices alone. Moreover, data shows that inflation remained stable in the last decade, but for supply shocks. So the RBI and the government must break new ground to ensure fuel and food price volatility do not impede the conduct of monetary policy.