Chhibber questions PM on use of monetary tools to tame inflation

IEO head writes to PM saying that high inflation is a story of administrative mistakes and nothing else

Ajay Chhibber, who heads India’s first-ever Independent Evaluation Office, which appraises the government’s public programmes, has written to Prime Minister Manmohan Singh criticising the current mechanism to tackle inflation through the Reserve Bank of India’s (RBI) monetary tools. In his note, he also expressed reservations on Urjit Patel Committee’s recommendations.

According to a senior official, Chhibber’s note said just resorting to monetary mechanism alone will not help India solve the problem of high inflation; instead, it should look at other methods as well.

In the note, Chhibber said it seems the central bank believes that monetary tools are the only instruments to rein in inflation. High inflation is a story of administrative mistakes and nothing else, the note said.

On this, he also blamed linking wages to the consumer price index for industrial workers (CPI-IW) as being the main reason for fiscal deficit woes. Dearness allowance of the central government employees and also some state governments are linked to CPI-IW.

The note highlighted that much of fiscal deficit problem is mainly due to wage spiral arising from linking DA to CPI-IW. “Fiscal Deficit problem is largely due to administrative expenditure as government policy is encouraging lot of it,” Chhibber said.

In basic economic text books, high fiscal deficit is also blamed for increasing inflation in the medium term.

Chhibber in his note said till the time CPI and WPI were moving in the same path, there was no problem at all. However, problems started arising when CPI and WPI stopped moving in the same direction, mainly due to food inflation.

“Food Inflation needs to be controlled not through monetary policy measures as it is coming mainly due to huge food grains procurement and also due to prices of vegetables, oil seeds and pulses,” Chhibber said in his note.

However, in recent months both CPI and WPI inflation have been coming down. While CPI inflation declined to a two-year low of 8.79% in January from 9.87% in December, its WPI counterpart fell to eight months low of 5.05% from 6.16%.

In fact food inflation in terms of WPI was down to a single digit at 8.80% in January, for the first time since May, 2013. The retail price food inflation also came down to 9.90% from 12.16% in the period.

Chhibber said for bringing down vegetable prices, the marketing network needs to be fixed, while in pulses and oil seeds, more nimble trade policies need to adopted.

He was also critical of the Urjit Patel Committee’s recommendations since it also emphasised on controlling inflation through monetary tools. Raising of interest rates could cripple growth in these times, he said.

“It seems Urjit Patel Committee has focused just on instruments under its control to tame inflation and if you do that, then growth will seriously suffer,” Chhibber said. Economic growth is officially projected to be sub-5% for the second year in a row at 4.9% in 2013-14.

The Patel panel has recommended that inflation should be the nominal anchor for the monetary policy framework. This nominal anchor should be set by the RBI as its predominant objective of monetary policy in its policy statements, it said. It wanted CPI to be this nominal anchor rather than WPI.

RBI had raised the repo rate by 25 basis points in January, when markets were expecting a status quo. IEO appraises the public programmes of the government.