Competitive Exams: Current Affairs 2011: RBIs approach to inflation

RBIs approach to inflation

  • The Reserve Bank of Indias annual monetary policy statement in May and its mid-quarter review last week, by many yardsticks, are seen as a break from the past. That only few observers have commented on the new look policy is most certainly due to the fact that the monetary policy, unlike the fiscal policy (the Union budget), hardly evokes the kind of widespread scrutiny or excitement. That remains so despite recent attempts to make the monetary policy more accessible to the common man.

  • The annual policy statement and the mid-quarter review that followed it fit into the recent mould of policy announcements that strive for transparency and reach out to the common man. One outstanding example is the dissemination of information on what has become one of the core topics in todays public policy discourse, namely, inflation.

  • The deleterious consequences of inflation are well known. It will impact adversely on the growth prospects. Indias poor with already low living standards will suffer the most. The RBI in its monetary statements has devoted considerable space not just to inflation but also to inflation expectations. The connection between the two has once again been well brought out in the annual policy statement.

  • High inflation is being driven by global commodity prices which have surged in recent months. There is every possibility that they may increase further even in the short-term. So there is a real possibility of inflation getting even worse.

  • Even the most pessimistic inflation projections of recent months have been exceeded, there are serious concerns that inflation expectations may become unhinged.

  • The monetary policy should have a clear and stated inflation objective. Second, the central bank must have the appropriate instruments and have the freedom to use them. Finally, there should be an effective transmission of monetary policy.

  • The RBI has recently taken some bold steps:

  • a 0.75 percentage point increase in the repo rate over two policy statements in contrast to the small baby steps of previous policies

  • making the repo rate the sole policy rate

  • the creation of the Marginal Standing Facility from which banks can borrow at the repo rate plus one percentage point.

  • Not only will the RBI be able to manage liquidity better, but it effectively assumes the traditional role as a lender of last resort. Monetary transmission should improve as a result of these changes.

Courtesy: The Hindu and Times of India