Inflation Management in India – Objectives & Challenges – Explained Pointwise

A new analysis by Climate Trends, a Delhi-based organisation, has connected the dots between climate change, crop losses and rising food prices. The study shows how extreme heatwaves and erratic rainfall have severely impacted TOP production over the past five years, pushing up prices of these staples and driving food inflation to alarming levels.
In this regard, let us understand the inflation management in India.

What is inflation management?

• Inflation management refers to how governments and central banks contain the rise in prices to maintain economic stability, protect purchasing power, and support sustainable growth.
• In India, inflation is mainly managed by the Reserve Bank of India (RBI) through monetary policy, supplemented by fiscal, administrative, and supply-side interventions.

Instruments of inflation management:

• Monetary Policy (by RBI):
  • Repo Rate ↑ (borrowing cost ↑) → reduces money supply → controls inflation.
  • Repo Rate ↓ (borrowing cost ↓) → increases money supply → boosts growth.
  • CRR (Cash Reserve Ratio) & SLR (Statutory Liquidity Ratio): Adjust liquidity with banks.
  • Open Market Operations (OMO): RBI buys/sells government securities to regulate money supply.
  • Inflation Targeting: India follows a flexible inflation targeting regime (4% ± 2%).

• Fiscal Policy (by Government):
  • Reduce Fiscal Deficit: Control excessive government spending.
  • Rationalise Taxes: Adjust GST/excise duties to regulate commodity prices (e.g., on fuel).
  • Subsidies & Cash Transfers: To protect the poor during inflation.
  • Control Public Borrowing: To avoid excess money circulation.
• Supply Side Measures:
  • Boost agricultural output (irrigation, storage, MSP reforms).
  • Reduce supply bottlenecks (transport, logistics, imports of essential goods).
  • Strengthen supply chains to control food inflation.
• Administrative Measures:
  • Price controls & anti-hoarding laws (check black marketing).
  • Buffer stock management by FCI for food grains.
  • Regulating essential commodities under Essential Commodities Act.

What are the objectives of inflation management?

1. Price Stability: Maintain a predictable and moderate rate of inflation to avoid excessive price fluctuations, which is crucial for household budgeting and business planning.
2. Safeguarding Purchasing Power: Prevent erosion of real income for salaried employees, pensioners, and low-income groups, as unchecked inflation disproportionately impacts the poor and vulnerable. Ensure essential goods, especially food and fuel, remain affordable, given their large share in Indian household expenditure.
3. Supporting Sustainable Economic Growth: Balance inflation control with the need for investment and job creation; extremely tight policies can stifle growth, while loose policies can trigger runaway inflation.
4. Ensuring Financial Stability: Stabilize domestic currency and control interest rates to limit risks such as asset bubbles and harmful volatility in financial markets.
5. Policy Coordination: Coordinate monetary, fiscal, and trade policies to address structural supply shocks and volatile commodity and food prices, which are frequently significant factors in India.

What are the challenges in inflation management?

1. Neglect of economic reality- In India, food accounts for nearly 50% of Indian household expenditure. It is crucial to most people’s cost of living. Ignoring food prices in inflation targeting would lead to neglect of a major economic concern for a large portion of the population.
2. Transitory Fluctuations of food prices is a misconception in India- Contrary to claims that food price fluctuations are temporary, food inflation in India has been persistent for over a decade. This indicates a structural problem, and removal of food inflation from inflation targeting will not solve the problem.
3. Interdependence of Food and Core Inflation- Food prices influence wages, which in turn impact core inflation. Hence, it would be difficult to control core inflation independently of food prices.
4. Misguided Policy- Exclusion of food prices from the inflation target could leave India vulnerable to rising food costs. This would undermine the standard of living for a large segment of the population.
5. Ineffectiveness of Interest Rate Adjustments- Raising interest rates have not led to curbing of core inflation but has instead exacerbated it by increasing the costs for firms. This has led to higher prices of the products and higher inflation in the economy.
6. Monetary Policy singular focus on demand side: RBI’s monetary policy targets only demand side constraints. It faces the problem of tackling supply shocks originating from food and oil.
7. Flawed Model of Inflation targeting: Monetary Policy model used for Inflation management in India is not statistically validated for Indian data. The current model of Inflation targeting is based on the assumption that inflation means overheating the economy- that is increased output greater than natural level output. However, In India it is impossible to observe the actual level of output in an economy. Hence, setting policy rates based on the assumption that the economy has overheated is unscientific.
8. Failure in addressing supply shocks- Adoption of a myopic vision in inflation management by focussing on export ban of agricultural products (like wheat, rice, onions), leads to increased inflation. Export bans induce fear and panic in the domestic market, leading to rise in stock holdings, which ultimately result in price rise.
9. Exclusive Focus on Inflation slows down growth- RBI’s current mandate of inflation management is too singularly focused on controlling inflation. Inflation management has negatively impacted GDP growth. High policy rates (repo) maintained to control inflation affected the cost of domestic capital. It led to a decline in investment rate, thereby resulting in less GDP. For ex- Since 2016 (after inflation rate targeting was institutionalised), there has been a steady increase in repo rates, and a steady decline in GDP growth.
10. Ignoring the Global Nature of inflation- Inflation is global in nature, as the price level of a good is determined by millions of producers across the world. Hence, solely targeting inflation management is not good for the health of the economy, as certain prices of goods are beyond our control.

What should be the way forward?

1. Increasing agricultural production- We must focus on improving agricultural productivity and controlling food prices through supply-side measures to address inflation in India.
2. Release Excess Buffer Stocks- The government holds more than 40 million tonnes of rice, much above the buffer stock norms of 13.5 MT. This excess stock should be unloaded by the Food Corporation of India in the open market at reasonable prices. This will cool down food inflation.
3. Enhancement of Processing Capacity: About 10-15% of perishable items like tomatoes and onions should be processed. The availability of alternatives like tomato paste and onion powder will help to stabilize prices.
4. Adjustment of Import Duties- Import duties on items like wheat should be reduced, as cheaper imports can help control domestic prices.
5. Updation of the CPI Basket Weights- The weight of food and beverages in the CPI basket should be adjusted to reflect current realities as the weights are based on the 2011 consumption survey.
6. Greater Tolerance of Higher levels of Inflation: Since inflation is a global issue, there must be greater tolerance for higher levels of inflation either by adjusting the acceptable range of inflation upwards, or by extending the period over which the MPC has to meet its inflation target.

Conclusion: 
Inflation management is a very important policy tool which should not only be limited to price control but shall be central to social well-being, macroeconomic stability, and achieving India’s long-term development targets.