URJIT PATEL RECOMMENDATIONS - SWEEPING, PATH BREAKING

By Ruma Dubey

There is a lot of buzz on Mint Street, created by one individual; no, not Mr.Rajan but the deputy Governor of RBI, Mr.Urjit Patel.

On 21st Jan, he presented a 130-page report for revision and strengthening of the Monetary policy framework. And the recommendations made in the report are quite sweeping, keeping in tune with today’s times. He has suggested a complete overhaul of the existing operating structures, aligning us more globally, more so with US Federal Reserve. He has also laid out a roadmap for bringing down inflation and measures which will help bring down fiscal deficit. In the economist circles across the country, it has indeed created a buzz and led a round of interesting debates.

A quick look at some of the highlights of this report:

1: Shift to CPI as the nominal anchor for inflation

2: The target for inflation should be set at 4% with a band of +/- 2% around it, set in the frame of a two-year horizon. This will be a gradual transition from 8% for next one year and 6% for the second year.

3: Inflation will be the predominant objective of monetary policy in its policy statements.

4: Central Government to ensure that the fiscal deficit as a ratio to GDP (gross domestic product) is brought down to 3.0 per cent by 2016-17.

5:  Monetary policy decision-making should be vested with a monetary policy committee (MPC), wherein RBI Governor will be the Chairman , Deputy Governor in-charge of monetary policy could be the Vice-Chairman. The Executive Director in charge of monetary policy could be its member.  The term of office of the MPC could be three years, without prospect of renewal.  Like the US Federal Reserve, minutes of this MPC meet will be released at a later date, two weeks after the meet.

6: Fixed income financial products should be treated on a par with bank deposits for the purposes of taxation and TDS.

7: Given the sharp rise in ratio of agricultural credit to agricultural GDP, the need for subventions on interest rate for lending to certain sectors to be re-visited.

8: Given volatility in capital inflows and outflows, a flexible setting of monetary policy by the RBI in the short-run was warranted.

Very sweeping changes indeed but the highlight is clearly the targeting of inflation from the current WPI to CPI. This is probably the most needed change as clearly, everything which RBI has tried to do, to control inflation has not worked. It is an ambitious target too but again, it is a roadmap and will not happen overnight.

CPI tracks retail prices paid by consumers for finished products. There is a major difference between the WPI and the CPI as the prices differ due to subsidies, sales tax, excise duties, distribution costs. WPI on other hand, is the measure of price of manufactured goods but does not measure services. With 55% of the GDP basket coming from services, with WPI not measuring services, it just does not make sense to continue with this measure.

What is also welcome is the setting up of MPC. This is just like what the Bank of England has and Fed Reserve’s FOMC meet. The committee is held directly accountable when set targets for inflation are not achieved and the MPC has to issue a statement explaining why the target was not met. It will also have to propose plans to correct and set roadmaps, giving definitive timelines. This MPC really puts RBI on the mat and people will be able to assess the progress and efficacy of the measures taken.

The report also reiterates what we already know – RBI’s main focus will be inflation and not growth. Also it is very apparent that RBI and not the Govt will set the inflation targets. This would mean RBI could function as a completely independent body, with least interference from the Govt. Now, this is something which we need to see if the Govt will allow.

It is unlikely that this report will have any influence on the RBI policy in 28^th but it does give us an insight into its mindset. And these progressive changes, if indeed implemented, bode well for the country.