In a historic policy shift, the government and the Reserve Bank of India have inked a monetary policy framework agreement, requiring the central bank to adopt the line of inflation targeting. The RBI governor should have the casting vote in the proposed monetary policy committee that would steer the policy, says C Rangarajan, former RBI governor and former chairman of the Prime Minister’s Economic Advisory Council.

He spoke to Prasanta Sahu of FE. Excerpts:

Your take on the new monetary policy framework agreement signed between RBI and government?

I have always held the view the primary objective of monetary policy is price stability. This agreement emphasises that. What the agreement means that if inflation goes beyond the comfort zone which is 6% on the upper side, then RBI must take all action that is required in order to bring down the inflation rate. Therefore, if the inflation rate is  4 % plus/minus 2%, then other objectives come into play.

Do you think along with responsibility, RBI should be given greater freedom?

This agreement itself in my view gives greater independence to the central bank, because, this clearly says that the dominant objective of RBI is price stability. Therefore, it is free to take any action which it thinks is appropriate in order to bring down inflation. The interference by the government is not called for because it is clearly stated that the primary objective of RBI, particularly when inflation goes beyond 6%, is to control it.

Should the RBI governor be given veto power in the monetary policy committee?

At the moment the decision of the RBI is the decision of the governor. I think once the committee is set up, obviously, the RBI governor would have the casting vote if the opinion is equally divided.

Should RBI have more say in composition of the committee?

I would think that the committee should have representatives from government, RBI and there should be independent thinkers. It should be a joint effort of both RBI and government to think together and nominate members to the policy committee.

Will Inflation Targeting Put Pressure on Government to Observe Fiscal Prudence?

Well, in some sense. The signing of the agreement means that the the government is also of the view that inflation beyond 6% is not an acceptable level. If in case the government acts in a way that is not consistent with it and if inflation continues to remain beyond 6%, then the RBI governor has a right to indicate in the statement that the one of the reason for inflation remaining beyond 6% is government action.

By Prasanta Sahu