RBI Deputy Governor Suggests Tweaking Inflation Target Framework Amid Global Uncertainty

Reserve bank of India (RBI) Deputy Governor Poonam Gupta on Tuesday said India could perhaps consider tweaking the level of inflation and the tolerance band a bit if growth-inflation mix evolves as it has in the past ten years with robust growth, and lower and more stable inflation. “But if the global environment remains as challenging as it has been during the past six years, it would warrant both predictability and flexibility inherent in the existing framework,” she said at an NCAER seminar. The government, after consultation with the central bank, has notified the inflation target framework for a five-year period through March 31, 2031. As per the framework, the RBI has to keep inflation at 4% (+/-2%) from FY27-FY31. Gupta said the case for retaining the 4% target rests on several mutually reinforcing factors. “First, 4% target was as per the assessment of the RBI’s Expert Committee in 2014. They established it as the rate at which macroeconomic conditions were deemed to be optimised with a zero-output gap,” she said. “Subsequent re-estimations of trend inflation for India also reiterated this assessment. Second, current 4% target is considered to be suitable to its stage of economic development when compared with other inflation-targeting economies,” Gupta said. Advanced economies (AEs) such as US, UK, Euro Area, Japan, Canada and others, cluster around a 2% target, reflecting the lower equilibrium inflation rates associated with their advanced and low-growth economies. “On an ongoing basis, RBI too, on its part, can consider some further refinements, particularly with regard to more engagement on its core inflation measures. More, better, and timely communication has been a work in progress and will continue to remain so,” she said. Emerging markets and developed economies (EMDEs) are placed at a higher range between 2.5 % and 4%. India’s 4% target places it at the upper end of the EMDEs, Gupta said. “Thus, the analytical arguments, suggestions received and international experiences seem to favour 4% target as optimal for India,” Gupta said. Gupta said renewal of India’s inflation targeting framework through March 2031, has come at a moment of considerable global uncertainty. “Geopolitical tensions, supply chain disruptions, energy price volatility, and an uneven global growth outlook have made the macroeconomic environment more complex and less predictable,” she said. In this context, the decision to preserve the framework’s core architecture including the headline CPI inflation target of 4% and the ±2% tolerance band is a policy choice of consequence, she said. “The review strengthens the framework precisely when it is most needed,” she said.