Inflation targeting: Defending the status quo

India adopted inflation targeting (IT) in September 2016.

The government announced a 4 per cent conwithin an upper limit of 6 per cent and a lower limit of 2 per cent. The inflation target and band are revisited every five years. The government constituted a sixmember Monetary Policy Committee (MPC), consisting of three ex-officio members from the Reserve Bank of India and three external members. The first MPC completed its term four years ago, and in September this year, a second MPC will complete its term.

For the most part, IT has been successful. Inflation has declined, both compared to previous years and relative to other countries. Both CPI headline and core inflation have become less volatile.

The transmission of policy has improved. Expectations of inflation have declined, indicating better anchoring. IT has not caused the RBI to become overly hawkish or reactive to every deviation in inflation from its 4 per cent target.

Since September 2016, the RBI has changed the key policy rate 17 times, the majority of them during 2019-20 and 2022-23. In the remaining six years, the policy rate was adjusted only about once per year. In contrast, the RBI changed the policy rate 24 times in the eight years prior to adopting IT.

Should the government then pay heed to the calls for modifying the approach to inflation targeting? Broadening the mandate? Critics have opined that the RBI's mandate to maintain price stability while also "keeping in mind the objective of economic growth" should be broadened to encompass other goals.

Some say that the growth objective should be elevated so that it has parity with the price stability objective, similar to the US Federal Reserve's dual mandate. Others have argued that the RBI's mandate should be expanded to include the responsibility for developing the corporate bond market and the promotion of green finance.