India's inflation targeting: Base it on reality and not perceptions

livemint.com:

Recently, writing in the Economic Survey, the chief economic advisor observed that it is worth exploring whether India’s inflation targeting regime should focus on non-food inflation. The reasoning was that monetary policy is more effective in counteracting price pressures that arise out of excess aggregate demand, whereas food inflation is usually on account of supply constraints. In contrast, the Reserve Bank of India (RBI) governor recently spoke after the monetary policy meeting and observed that food inflation is a major factor in determining inflationary expectations and therefore continues to be a matter of concern.

He pointed out that “the public at large understands inflation more in terms of food inflation than the other components of headline inflation. Therefore, we cannot and should not become complacent merely because core inflation has fallen considerably." In view of these observations, it is worth revisiting an old column of mine in this paper—“It might be time for India to reconsider its indicator for inflation targeting" (15 November 2023). The article points out that inflation is not a singular phenomenon.

There are in fact many different inflations, which are not necessarily highly linked. Monetary policy has different consequences for these different inflations. To understand the implications of this, it may be useful to see the trajectory of recent inflationary behaviour, which is depicted in the accompanying chart.

We see that food inflation in urban areas spiked in July 2023 and has since stayed above 6%. A similar pattern is seen in rural areas as well. In contrast, inflation in non-food items has been steadily declining and is well below 2% at present.