Unwavering focus: On the Monetary Policy Committee’s approach to policy

Contact Counsellor

Last Updated12/06/2023

The Monetary Policy Committee (MPC)’s latest decision, to extend the pause in the Reserve Bank of India (RBI)’s monetary tightening while staying focused on the withdrawal of accommodation, reflects the rate setting panel’s reassuring resolve to keep inflation front and centre of its approach to policy.

RBI Governor Shaktikanta Das was unequivocal in asserting that “the best contribution of monetary policy to the economy’s ability to realise its potential is by ensuring price stability”.
The MPC’s recent unwavering focus on price stability is informed largely by its mandate to achieve the Consumer Price Index (CPI) inflation target of 4%, a goal that it has struggled to actualise right since January 2021.
Specifically, Mr. Das flagged the spatial and temporal distribution of rainfall during this monsoon in the wake of El Niño conditions, unabated geopolitical tensions, uncertainty over international commodity prices including those of sugar, rice and crude oil, and the volatility in global financial markets as upside risks to the MPC’s inflation projections.
Another key factor feeding into the RBI’s policy approach is its conviction that macroeconomic fundamentals have strengthened after the unrelenting focus on preserving price and financial stability.

Monetary policy refers to the policy of the central bank– ie Reserve Bank of India – in matters of interest rates, money supply and availability of credit.
It is through the monetary policy, RBI controls inflation in the country.
RBI uses various monetary instruments like REPO rate, Reverse RERO rate, SLR, CRR etc to achieve its purpose.

The monetary policy can be expansionary or contractionary.
An expansionary monetary policy is focused on expanding (increasing) the money supply in an economy. An expansionary monetary policy is implemented by lowering key interest rates thus increasing market liquidity.
A contractionary monetary policy is focused on contracting (decreasing) the money supply in an economy. A contractionary monetary policy is implemented by increasing key interest rates thus reducing market liquidity.

The primary objective of monetary policy is to maintain price stability while keeping in mind the objective of growth. Price stability is a necessary precondition for sustainable growth.
To maintain price stability, inflation needs to be controlled. The government of India sets an inflation target for every five years. RBI has an important role in the consultation process regarding inflation targeting. The current inflation-targeting framework in India is flexible in nature.

Now there is a flexible inflation targeting framework in India (after the 2016 amendment to the Reserve Bank of India (RBI) Act, 1934).
The amended RBI Act provides for the inflation target to be set by the Government of India, in consultation with the Reserve Bank, once every five years.
The Central Government has notified 4 per cent Consumer Price Index (CPI) inflation as the target for the period from August 5, 2016, to March 31, 2021, with the upper tolerance limit of 6 per cent and the lower tolerance limit of 2 per cent.

Price stability is after all a public good and achieving durable disinflation must remain a non-negotiable goal, especially amid widening income inequality and high levels of joblessness.