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New Monetary Policy Framework to handle inflation

  •  Inflation refers to a gradual rise in the general price level in the economy and a fall in purchasing power ofmoney over a period of time.
  • New Index for measuring inflation:

Reserve Bank of India (RBI) had adopted the new Consumer Price Index (CPI) (combined) as the key measure of inflation. The national CPI is meant to measure retail inflation. This index will combine urban and rural CPIs, both under preparation and to be released simultaneously.

  •  Salient features of Monetary policy framework:

a) It has been signed between Union Government and the Reserve Bank of India (RBI).

b) The Reserve Bank of India will aim to bring retail inflation below 6% by January 2016. The target of financial year 2016-17 and all subsequent years shall be four per cent with a band of (+/-) 2 per cent.

c) The agreement also requires the RBI to give the government a report in case the target is missed for a specified period. 

d) The RBI is also required to make public every six months a document explaining the sources of inflation and the inflation forecast for the period between six and eight months. In case of any dispute arising out of interpretation of the agreement, it would be resolved through a meeting between the RBI governor and the government. 

e) The new monetary policy committee, which will set the inflation target.

f) The Monetary Policy Committee will comprise :

I.   the Reserve Bank Chairperson as its chairperson;
II.  one executive member of the Reserve Bank Board nominated by the Reserve Bank Board;
III. one employee of the Reserve Bank nominated by the Reserve Bank Chairperson; and
IV.  our persons appointed by the Central Government.

The objective of monetary policy is to achieve price stability while striking a balance with the objective of the Central government to achieve growth.

Criticism of mechanism: 

a) The Indian economy is inflation prone and fiscal populism, is its biggest contributor. From loan waivers to corporate give-aways, fiscal policy primes the pump needlessly on many occasions for non-economic considerations.

b) The government works on short term basis as Political considerations like re-election make the central government more than willing to consistently spend more than it earns despite the risks of higher future inflation and increased interest rates. This begs the question as to how the central government can be entrusted with conducting monetary policy when such a task requires a long term perspective.