Switch-hit: RBI to take inflation-targeting path

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Published: March 1, 2015 12:48:53 AM

the finance minister on Saturday said the government and the RBI have reached an agreement over a monetary policy framework wherein the central bank would be mandated to keep retail inflation below 6%

Joining the ranks of the European Central Bank, Bank of Japan and Bank of England, the Reserve Bank of India (RBI) will soon have an inflation-targeting mandate from the government.

Finance minister Arun Jaitley on Saturday said the government and the RBI have reached an agreement over a monetary policy framework wherein the central bank would be mandated to keep retail inflation below 6%. “To ensure that our victory over inflation is institutionalised and, hence, continues, we have concluded a Monetary Policy Framework Agreement with the RBI, as I had promised in my Budget speech for 2014-15,” Jaitley said in Parliament.

The government and the RBI will also work towards setting up a monetary policy committee that will take policy decisions. The finance minister said the government would amend the RBI Act in 2015 to affect the changes required for inflation targeting and setting up of such a committee.
Both these changes are among the recommendations of an internal committee of the RBI, headed by deputy governor Urjit Patel. The committee had recommended targeting a medium-term inflation rate of 4% with a band of +/- 2%.  Central bank watchers said members of the monetary policy committee will be the key, as a greater number of varied representatives would broadbase the decision-making of RBI. “We need to wait for details of what kind of representation comes into the monetary policy,” said Shubhada Rao, chief economist, YES Bank.
While presenting the Budget, Jaitley said the government expects retail inflation to ease to 5% by end of 2015 and would, therefore, expect the RBI to cut rates.

The RBI switched to consumer price index inflation from wholesale price index as the anchor for policy decisions in 2013 on the basis of recommendations of the Patel committee. The central bank cut policy rates by 25 bps on January 15.

Further, in a relief to public sector banks that are capital-starved, the Budget announced the setting up of an autonomous bank board bureau to help them raise capital for expansion. “The Bureau will search and select heads of public sector banks and help them develop differentiated strategies of capital-raising plans to innovative financial methods and instruments,” he said.

The RBI estimates that the government needs to infuse R2.4 lakh crore into PSU banks until 2018-19 for them to meet Basel-III norms. In the Budget, the government also said it would infuse R7,940 crore into banks. Greater flexibility and freedom to PSU banks was one of the main points discussed at the two-day retreat Gyan Sangam last month, where Prime Minister Narendra Modi met bankers.

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