The inflation targeting regime shouldn’t constrain Indian manufacturing

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Subscribe to enjoy similar stories. The recently concluded Monetary Policy Review reiterated the concern of high CPI inflation and recommended keeping the repo rate unchanged. This review, however, marked an interesting increase in dissent within the policy committee: Two of the three non-Reserve Bank of India (RBI) members voted for a reduction in rates.

This panel has six members, of which three are from within RBI. To understand the concern of these independent members, it is important to remember that insofar as the formal literature in macroeconomics is concerned, prices mentioned in the discussion of price stability refer to something called the ‘aggregate price level’ of the economy. This price level is linked to the transactional matrix of the economy: i.e., the prices underlying all transactions.

In simple terms, the consumer price index (CPI) captures the prices of goods and services that make up final consumption. It ignores the prices underlying the vast structure of intermediate transactions inherent to a complex economy. The limited coverage of CPI would not have made a difference if all prices were highly correlated.

However, this has usually not been the case in recent years. The accompanying graph, for example, shows the complex diversity of inflation in different subgroups of the wholesale price index (WPI). Notice that in most months, the highest inflation is in the food index.