Inflation targeting in India: Importance of demographics

Abstract

Monetary policy is a key driver for a nation?s economy and it evolved with time. Different countries adopt different methods to regulate the monetary policy and the onus of it rests upon either the central bank or the government. In India, the Reserve Bank of India (RBI) is in charge of developing a monetary policy. Amongst the various measures used in developing a monetary policy is Inflation targeting (IT), in which central banks target inflation within a range that is predecided and publicly announced. The targets can either be decided by the Central Bank, or by the government of the country. Central banks use instruments which modify the supply/demand of money in the market which inturn lead to a change Interest rates to keep inflation under control. A system similar to IT is believed to have originated in Germany, though the first country to implement IT was New Zealand in 1990. IT has several prerequisites such as strong & efficient transmission mechanism in order to provide spontaneous data related to inflation and to implement the desired changes quickly. Apart from the such infrastructure, fundamentals such as the choice of inflation index to be used (CPI, WPI) needs to be defined. Despite all these challenges, IT was implemented by some emerging economies; some were successful while others refrained after initial roadblocks. There has been a lot of debate on IT in the past few years, with respect to its effectiveness in developing nations such as India. Apart from the prerequisites mentioned above, there is a social factor of demographic dividend which is often neglected by economists but is extremely important in India considering the vast diversity of the developing nation. IT is often found to be at crossroads with unemployment, atleast in the short term, which may not be suitable for India as the unemployment is skewed across different sections of the society in different ways. This paper aims to analyse the effectiveness of Inflation Targeting and the importance of demographic dividend of India. The paper starts by identifying the various key aspects on Inflation Targeting through literature review. These aspects are then further explored through a primary research based on survey and the results are discussed. All the important inferences through both primary and secondary research are then summed up in the conclusion.