The Bane of Monetary Policy

The government’s public disapproval of the Reserve Bank of India’s (RBI) refusal to reduce the rate of interest once again at the second bimonthly monetary policy review on 7 June 2017 that would have facilitated a reduction in bank lending rates and help boost growth, is rather perplexing. The chief economic advisor ought to have realised that the RBI’s stubbornness, a display of its independence, in pursuing a narrow, single-minded policy perspective of inflation targeting, contrary to the government’s explicit wishes, is directly inspired by the government’s own policy of stabilisation rooted in the theology advanced by the International Monetary Fund (IMF) and the World Bank. It is a different matter that the RBI did not exhibit such independence when the government interfered with its autonomy during demonetisation and in a few other administrative matters.

That apart, the central bank’s own image has been one of overtly promoting the IMF’s stabilisation programmes during the past two decades or so. More specifically, a paper which is the outcome of a “technical collaboration” between the RBI and the IMF, provides an outline of the analytical framework for such an inflation targeting policy. It seeks to concretise what is called flexible inflation targeting (FIT) recommended earlier by an expert committee headed by the current RBI Governor, Urjit Patel. The committee had exhibited a single-minded devotion to controlling inflation through a unique interest rate channel. It had accordingly recommended a nominal inflation rate of 4% of which operated around a ± 2% band based on the consumer price index (CPI). This has been imposed statutorily by the government on the monetary system after it signed the Monetary Policy Framework Agreement (MPFA) with the RBI in February 2015.