|Buying an outdated policy|
|Wednesday, 04 March 2015 17:08|
Inflation-targeting is a bad idea, and will hit govt
While prime minister Narendra Modi refuses to embrace the perfectly sensible idea of keeping the currency weak in order to boost export in the manner that China has done for decades, finance minister Arun Jaitley has decided to accept the idea of an inflation-targeting central bank, an idea long past its expiry date. Indeed, in countries like the US, the central bank looks at a series of indicators like the joblessness rate and housing starts, not just inflation data. This, in fact, is the model that India has followed for years and which, till recently, delivered good results—the model failed to deliver as RBI didn’t see the warning signs on inflation, but that is easily fixed. Given the current collapse in inflation levels, it is likely Jaitley doesn’t see the danger in what some of his advisors have been pushing him to do since he came to office. The problem is that, if inflation starts rising, RBI will be forced to keep interest rates high. Indeed, just the fact that an inflation-targeting RBI kept interest rates high for several months even as inflation levels were coming off—though inflation-targeting had not been adopted till now, RBI has been informally been adopting it—should have alerted Jaitley to the dangers of formalising the policy. Indeed, given the role of structural factors (lack of a unified national agriculture market) as well as seasonal ones (too much or too little rain) in exacerbating inflation, it is likely interest rates in India will remain elevated—this will hurt industry and services while not being able to influence inflation that occurs due to supply-side reasons.