{"id":191426,"date":"2022-06-20T20:25:53","date_gmt":"2022-06-20T14:55:53","guid":{"rendered":"https:\/\/blog.forumias.com\/?p=191426"},"modified":"2022-06-20T20:28:14","modified_gmt":"2022-06-20T14:58:14","slug":"partha-sen-writes-the-inflation-tightrope","status":"publish","type":"post","link":"https:\/\/forumias.com\/blog\/partha-sen-writes-the-inflation-tightrope\/","title":{"rendered":"Partha Sen writes: The inflation tightrope"},"content":{"rendered":"\n

News: <\/strong>The Indian economy has been hit by inflationary shocks. The RBI failed to keep the inflation rate below the upper threshold of 6%. Only after inflation hit 7%, it raised the repo rate.<\/p>\n

Mandate of the RBI <\/strong><\/h5>\n

In 2016, an independent\u00a0monetary policy committee\u00a0was constituted. It embraced the idea of inflation-target. <\/strong><\/p>\n

The Reserve Bank of India is 4 per cent, with a band of 2 per cent on either side. However, the RBI did<\/p>\n

Monetary authorities raise interest rates<\/strong> if inflation is above the preferred target<\/strong>, and vice versa. It causes a compression in demand (and a fall in economic activity), which in turn will reduce inflation.<\/p>\n

What are the causes of inflation?<\/strong><\/h5>\n

Some part of inflation is coming from abroad. For example, global supply chain disruption and so on.<\/p>\n

There has also been a steady outflow of foreign funds<\/strong> from the stock market. This caused the rupee to depreciate<\/strong>. This raised the prices of imported goods, for example petroleum products. This further added to the inflationary woes.<\/p>\n

Measures Taken So Far<\/strong><\/p>\n

The Monetary Policy Response<\/strong><\/h5>\n

The RBI has raised the cost of borrowing by increasing the repo rate, with a promise of more to come.<\/p>\n

The Fiscal Policy Response<\/strong><\/p>\n

The central government has cut fuel taxes. Further, it has also banned the export of certain items.<\/p>\n

What are the problems in India\u2019s inflation targeting framework?<\/strong><\/h5>\n

In a bid to follow international best practices, the RBI seems to have fallen for a fashionable framework<\/strong>, without thinking about the structure<\/strong> of the Indian economy. This can be illustrated through the following points.<\/p>\n

The first point relates to agriculture\u2019s role<\/strong> in the Indian economy. India\u2019s non-food<\/strong> and non-oil components<\/strong> of the consumer price index CPI are about 47%. The RBI has no control over international prices of food and oil. Therefore, it is left to squeeze less than 50% of the domestic economy to lower inflation.<\/p>\n

The real interest rise works through demand compression<\/strong>. But the problem is on the supply side.<\/p>\n

The RBI\u2019s monetary policy is silent on the exchange rat<\/strong>e and its effects<\/strong> on output in the Indian Economy.<\/p>\n

–<\/strong> For example, Until the 1970s, the monetary policies aimed to achieve both, internal balance<\/strong> (full employment and low inflation using monetary and fiscal policies); and external balance<\/strong> (balanced current account through the exchange rate).<\/p>\n

The inflation targeting can be at odds with the external balance. For example, as the RBI raises interest rates<\/strong>, outflows will possibly slow down with the rupee appreciating<\/strong>.<\/p>\n

Over time, from a policy perspective, the internal balance<\/strong> has come to mean only low inflation<\/strong>, since \u201cthe market\u201d will ensure full employment.<\/p>\n

Further, the Reserve Bank of India policy targets demand constraints. It faces the problem of tackling Supply shocks (<\/strong>originating from food and oil, primarily). If output<\/strong> is stabilised using macroeconomic policies<\/strong>, it can lead to prices rise even at higher levels. Further, on the other hand, if the authorities try to stabilise prices,<\/strong> it will lead to a fall in the output and employment in the country.<\/p>\n

What is the situation of India\u2019s foreign exchange reserves since 2020<\/strong>?<\/p>\n

Until 2020, India had seen massive portfolio capital inflows<\/strong>, and its current account deficits<\/strong> were financed by foreign reserves<\/strong>.<\/p>\n

In about six months, the foreign exchange reserves have fallen from around $640 billion to around $600 billion due to reversal in portfolio inflows. The RBI has executed \u201csterilised intervention\u201d, <\/strong>in which it has bought foreign exchange (with rupees) and sold the government bonds.<\/p>\n

Source<\/strong>: The post is based on an article \u201cThe inflation tightrope\u201d published in the Indian Express on 20th<\/sup> June 2022.<\/p>\n","protected":false},"excerpt":{"rendered":"

News: The Indian economy has been hit by inflationary shocks. The RBI failed to keep the inflation rate below the upper threshold of 6%. Only after inflation hit 7%, it raised the repo rate. Mandate of the RBI In 2016, an independent\u00a0monetary policy committee\u00a0was constituted. It embraced the idea of inflation-target. The Reserve Bank of… Continue reading Partha Sen writes: The inflation tightrope<\/span><\/a><\/p>\n","protected":false},"author":10328,"featured_media":0,"comment_status":"open","ping_status":"open","sticky":false,"template":"","format":"standard","meta":{"jetpack_post_was_ever_published":false,"footnotes":""},"categories":[1230,9],"tags":[216,10500],"class_list":["post-191426","post","type-post","status-publish","format-standard","hentry","category-9-pm-daily-articles","category-public","tag-gs-paper-3","tag-indian-express","entry"],"jetpack_featured_media_url":"","views":{"total":0,"cached_at":"","cached_date":1704942624},"jetpack_sharing_enabled":true,"_links":{"self":[{"href":"https:\/\/forumias.com\/blog\/wp-json\/wp\/v2\/posts\/191426","targetHints":{"allow":["GET"]}}],"collection":[{"href":"https:\/\/forumias.com\/blog\/wp-json\/wp\/v2\/posts"}],"about":[{"href":"https:\/\/forumias.com\/blog\/wp-json\/wp\/v2\/types\/post"}],"author":[{"embeddable":true,"href":"https:\/\/forumias.com\/blog\/wp-json\/wp\/v2\/users\/10328"}],"replies":[{"embeddable":true,"href":"https:\/\/forumias.com\/blog\/wp-json\/wp\/v2\/comments?post=191426"}],"version-history":[{"count":0,"href":"https:\/\/forumias.com\/blog\/wp-json\/wp\/v2\/posts\/191426\/revisions"}],"wp:attachment":[{"href":"https:\/\/forumias.com\/blog\/wp-json\/wp\/v2\/media?parent=191426"}],"wp:term":[{"taxonomy":"category","embeddable":true,"href":"https:\/\/forumias.com\/blog\/wp-json\/wp\/v2\/categories?post=191426"},{"taxonomy":"post_tag","embeddable":true,"href":"https:\/\/forumias.com\/blog\/wp-json\/wp\/v2\/tags?post=191426"}],"curies":[{"name":"wp","href":"https:\/\/api.w.org\/{rel}","templated":true}]}}