Context:
RBI has released a discussion paper to review the Flexible Inflation Targeting (FIT) framework as the current 4% CPI target (with a 2–6% band) ends in March 2026. RBI warns that raising the target could weaken policy credibility and undo past gains.
Why Retain the 4% Target?
- Global Credibility & Investor Confidence
- A higher target may be seen as accepting higher inflation, hurting India’s reputation.
- S&P Global’s upgrade to BBB cited strong inflation management as key.
- Institutional Strength
- FIT strengthened Monetary Policy Committee (MPC) credibility and fiscal discipline.
- Domestic Success
- CPI inflation mostly stayed within 2–6% since 2016.
- July 2025 CPI at 1.55% shows effective price stability.
- External Stability
- Low inflation protects the rupee, supports capital inflows, and maintains trade competitiveness.
Headline vs. Core Inflation
- Headline CPI: Includes all items (food, fuel, housing, etc.).
- Core CPI: Excludes food & fuel (more stable but less relevant for households).
- Arguments for Core Targeting (2023–24 Survey):
- Food inflation is supply-driven and beyond RBI’s control.
RBI’s Stand:
- Food shocks spill over to wages and prices, impacting core inflation over time.
- Global Practice: Most countries target headline CPI (Uganda is the exception).
- India’s Reality: With food ~50% of CPI, excluding it would ignore what matters most to people.
Flexible Inflation Targeting (FIT)
- A monetary policy framework where the central bank sets a specific inflation target but retains the flexibility to consider growth, employment, and financial stability.
- In India: Adopted in 2016 under an amendment to the RBI Act, 1934.
Benefits of FIT So Far
- Anchored Expectations: People and businesses trust RBI’s 4% target.
- Improved Sovereign Ratings: Credible policy boosts ratings like S&P’s upgrade.
- External Stability: Strengthened rupee, steady capital inflows.
- Investor Confidence: Predictable inflation lowers risk, boosts FDI/FDI.
- Shock Resilience: Prevented runaway inflation despite global turmoil.
