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Rethinking the trade-off: RBI needs to take a wider view of growth slowdown

Rethinking the trade-off: RBI needs to take a wider view of growth slowdown

After the Reserve Bank of India’s (RBI’s) adoption of a flexible inflation targeting framework from August 2016, the rules of monetary policy have changed in India, with the central bank becoming even more focused on anchoring inflation and inflation expectations than ever before. But the COVID-19 pandemic has created a dilemma for the RBI as higher-than-anticipated inflation prints in recent months have compelled the six-member monetary policy committee (MPC) to hold policy rates, even though growth concerns are significantly greater at this stage (the contraction in April-June GDP by 23.9 per cent is testimony to that fact).

The mandate for following an inflation-targeting framework based on one narrow nominal consumer price index (CPI) anchor has highlighted the challenges of conducting monetary policy in a severe growth shock scenario, particularly if it coincides with a sharp increase in headline CPI inflation as in the current period, even if this is mostly due to one-off or/and temporary factors.

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