No serious risk seen to RBI reputation if MPC fails to meet inflation mandate

Failure to meet the inflation mandate will not lead to any "reputational risk" for the Reserve Bank of India (RBI) and the Monetary Policy Committee (MPC), according to a person familiar with the developments.

"That the RBI has to explain itself, I would say that's a very positive thing. It is not a serious reputational risk. It is just an event," the person said on the condition of anonymity.

According to the person, the central bank is currently conducting monetary policy "as if it (failure) should not happen".

"If it happens, it is a good thing… a public authority, however tall, is accountable to the people," the person added.

The MPC is deemed to have failed if average Consumer Price Index (CPI) inflation is outside the band of 2-6 percent for three consecutive quarters.

As per the law, if the RBI fails to meet the inflation target, it must submit a report to the central government – commonly referred to as 'the letter' – spelling out the reasons for failure, the remedial actions it proposes to take, and an estimate of the time period within which inflation will return to target.

Data released last month saw CPI inflation jump to a 17-month high of 6.95 percent in March. This took the average for the first quarter of 2022 to 6.3 percent. As such, 6 percent-plus inflation in April-June and July-September will see the MPC fail to meet its mandate.

Inflation data for April will be released on May 12, with economists expecting it to have surged further to around 7.5 percent.

The RBI's most recent forecast pegs average CPI inflation at 6.3 percent in April-June, 5.8 percent in July-September, and 5.7 percent for FY23. These numbers will, in all likelihood, likely be revised upwards when the MPC's next resolution is released on June 8.

"You will certainly get a revised inflation forecast in June. The RBI didn't want to start off-cycle forecasting, which is why the latest MPC resolution didn't contain inflation forecast numbers," the person quoted above said, referring to the 40-basis-point repo rate hike announced on May 4.

Accountability no celebration

While the RBI welcomes being held accountable for its monetary policy, the person warned of what may come after in case the inflation mandate is not met and the central bank has to submit a report to the government, which must include – as mentioned above – what the RBI plans to do about the inflation situation.

"The RBI will use the sledgehammer. If the RBI decides to bring inflation back (to mandated levels) in six months, it will be sledgehammer plus sledgehammer. So, accountability should be taken with a pinch of salt and not as something to celebrate. We will all rue the day the RBI writes the letter," the person said.

The person also added that the experience of other countries had shown that reports submitted to the government after failing to meet the inflation mandate "don't do anything".

"The letter means nothing. It empowers the RBI to do whatever it wants. It may even stop press conferences," the person said.