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Last Updated : Sep 23, 2020 07:29 PM IST | Source: Moneycontrol.com

RBI discussion paper suggests 'sticky' food prices may be key to deciding policy rates

The jump in retail inflation, especially that in food prices, has forced the rate-setting panel to take a cautious approach to interest rate policy. It has stayed above the RBI's targeted levels for five months, and most recently stood at 6.7 percent in August.

A Reserve Bank of India (RBI) working paper has highlighted that paying attention to the sticky component of food inflation is important for the conduct of monetary policy in India.

“Inflation based on a stickiness re-weighted food price index does not perfectly align with the conventional core measure of inflation. This highlights why paying attention to the sticky component of food inflation – besides core inflation – is important for the conduct of monetary policy,” the working paper said.

Core inflation refers to the part of inflation excluding volatile food and fuel components. The sticky component of food inflation refers to food items whose prices are more resistant to change.

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The jump in retail inflation, especially that in food prices, has forced the rate-setting panel to take a cautious approach to interest rate policy. It has stayed above the RBI's targeted levels for five months, and most recently stood at 6.7 percent in August.

The Monetary Policy Committee (MPC) has cut the benchmark repo rate by 115 basis points since March to counter the impact of Covid-19 on the Indian economy. One bps is one hundredth of a percentage point.

This working paper revisits the notion of flexibility of food prices by compiling a novel micro-level dataset for India. It shows that food prices in India exhibit varying degrees of price stickiness across product groups, and proposes a model to measure this.

Calibrating the model shows that differences in productivity processes, market power and menu costs could account for the differences in price stickiness across product groups.

Inflation based on a re-weighted food price index that factors in the stickiness of food prices does not perfectly align with the conventional core measure of inflation. Therefore, it should factor in separately during policy deliberations, the RBI document said.

The RBI Working Papers series was introduced in March 2011. These papers present research in progress of the staff members of RBI and are disseminated to elicit comments and further debate, according to the central bank’s website.
First Published on Sep 23, 2020 07:28 pm
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