Inflation Targeting

And the debate rages on. On Inflation vs Growth priorities, on whether it suffices to target one variable THE INFLATION alone and on Whose job or privilege it really is – getting the slog overs at Inflation they mean; that of the RBI or of the Parliament ? Close to Seven decades after Independence from Foreign rule and we are yet to sort out these basic issues!

Let’s get the basic facts first. Does the Monetary policy really help control the demon Inflation which just reflects Price Balloons that are caused by didding up prices? Yes and no.

The fire of Inflation can be doused by increasing supplies of the goods and services whose prices are being bid. But supplies of most commodities and services cannot be increased in the short run. Infrastructural bottlenecks also ensure that supplies don’t reach the places they have to in the quantum required and at the time they are required “the most”. With money taking the place of goods, the balloon of Inflation sets in to ascent mode

It is this money flow that the Central Bank targets and goes about curbing the flow .A portion of the monies that the banks can lend can be reduced by ensuring that the funds lie mandatorily with the banks in form of Cash. (CRR) A portion of the funds that could otherwise be lent by the banks to eligible borrowers may again be blocked by the monetary policy and directed to invest in approved securities instead (SLR). With money flows tapered this way the Lenders would go about hiking their lending rates to keep their “fund spread” intact and in that process maintain their margins With funding becoming costlier a day would soon come when the prospective borrowers would say ‘No ‘ to loan offers. The Central bank may go in for more direct action by hiking the rates at which they lend funds to the Banks that borrow from them. These costs soon get passed on to the Borrower making borrowing a less sought after exercise! Money supply essentially is cut. All this with the idea of discouraging the process of bidding! Supplies lured by higher prices could in the meantime flow in dousing the fire of Inflation effectively

The debate now—If monies were to find their ways in to the Infrastructure sector and in to building capacities, isn’t one really stoking the flame of Inflation by making borrowings costly for the monies that really are earmarked for these purposes? Isnt this a double whammy—stoking inflation and smothering GROWTH? It makes sense to cut monies supplies only when the borrowings to a major part is made towards furthering ‘ consumerism’ and not when such monies help build capacities and remove road blocks!

When the citizens look forward to the Parliament to developing the Capacities and Infrastructure in the country does it not make more sense for the Parliament to insist on what it looks at as “more important” between Inflation targeting and Growth facilitating exercises! Can the parliament (and not the Central Bank) have the last word on this debate?

Also are we missing the bigger picture by targeting one variable the Inflation all the time? Do we have to first list out our needs and then prioritize our efforts in achieving them than just targeting Inflation all the while

The debate goes on–

Prof. Premsundar Iyengar