RBI members of the interest rate committee reject exclusion of food from inflation target

Mumbai: All three internal members of the Reserve Bank of India's rate panel insisted on the need to keep food prices within the central bank's broader inflation target, according to the minutes of the last meeting of the monetary policy committee on August 8. The statement was apparently in response to a growing chorus demanding that food be excluded from the RBI's inflation targeting.

This was the third time this month that the central bank has directly or indirectly expressed concerns about the proposal to exclude food from its inflation target – including a speech by RBI Governor Shaktikanta Das on the day the policy measures were announced and an article by Deputy Governor Michael Patra in an RBI publication earlier this week.

In July, the Economic Survey for 2023-24 proposed excluding food prices from India's inflation targeting framework.

As part of its inflation targeting mechanism, the government had in March 2021 maintained the RBI's flexible inflation target in the range of 2-6% for the five years ending March 2026.

The six-member MPC has an equal number of internal and external members. The internal members include RBI Governor Das, Patra and Managing Director Rajiv Ranjan. The external members are Shashanka Bhide, Ashima Goyal and Jayanth R. Varma.

Read also | Why food inflation cannot be excluded from target inflation

“The old debate core versus headline [inflation] “This point was already clear in 2016 when we introduced the flexible inflation targeting framework with a headline as our target in line with best international practices. Now it has resurfaced, with a persistent divergence between continued high food inflation and subdued core inflation,” Ranjan said at the August 8 meeting, according to MPC minutes.

Core inflation is the overall inflation excluding food and fuel. Persistent food inflation continues to be a concern for the RBI even though core inflation has eased.

While food inflation fell from 9.36% in June to 5.42% in July, overall inflation fell to a 59-month low of 3.54% in July, food currently accounts for 46% of the consumer price index (CPI) basket of goods.

Second-round effects of food inflation

mint reported on August 13 that while retail inflation in India fell below the RBI's medium-term target of 4% in July, this was likely to be temporary due to the statistical impact of a high base.

According to Ranjan, food cannot be excluded from the consumer basket as long as it forms an important part of the consumer basket and food inflation shows signs of sustainability.

Patra warned that the gap between headline inflation and food inflation had widened and that this was leading to a stalling in the convergence of headline inflation to the target.

Also read | A statistical illusion? How India's inflation fell to a 5-year low in July

“Taking into account double-digit inflation in major food categories such as cereals, pulses, spices and vegetables over several months, empirical evidence suggests an increase in the time-varying persistence of food inflation, that is, it takes longer to return to trend after a shock,” Patra said during the August 8 meeting, according to the minutes.

Patra also said rising food inflation was affecting household inflation expectations and hurting consumer confidence.

He added that while food price shocks may originate outside the scope of monetary policy, if they remain in the process of inflation formation, their effects “can spread and generalise through second-round effects, to which monetary policy cannot be insensitive”.

No room for complacency

At the heart of the current debate over the exclusion of food from the RBI's inflation framework is the monetary policy committee's disadvantage when food prices rise, as these are caused by supply-side problems rather than demand, which can be controlled by interest rate changes.

“Constantly rising prices are always and everywhere an expression of too much demand meeting too little supply, even if it is a supply deficit that sets the price spiral in motion,” said Patra, adding that it is well within the scope of monetary policy to adjust demand conditions to supply conditions.

Governor Das praised the introduction of flexible inflation targeting in 2016 as an important structural reform, saying it had gained credibility over the past eight years and delivered positive outcomes for the economy despite major global shocks.

“Their credibility must be preserved and maintained,” Das said.

Also read | India's inflation target: Base it on reality, not perceptions

On August 8, Das had said that given the high share of food in the basket of goods – 46% – inflationary pressures in food cannot be ignored. He had also said that the general public understands inflation better through rising food prices than other components of overall inflation.

“Therefore, we cannot and should not rest on our laurels just because core inflation has fallen significantly,” Das said in his monetary policy announcement.

By a majority of 4:2, the MPC had decided to keep the repo rate unchanged at 6.5% and maintain the stance on withdrawing support. Among the members, Bhide, Ranjan, Patra and Das voted in favour, while Goyal and Varma voted to reduce the repo rate by 25 basis points and change the stance to neutral.