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Monetary Policy Framework Agreement

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Monetary Policy Framework Agreement is an agreement reached between Government and the central bank in India – The Reserve Bank of India (RBI) - on the maximum tolerable inflation rate that RBI should target to achieve price stability.


The Reserve Bank of India and Government of India signed the Monetary Policy Framework Agreement on 20 February 2015 which made inflation targeting and achieving price stability the responsibilities of RBI. Subsequently, the government, while unveiling the Union Budget for 2016-17 in the Parliament, proposed to amend the Reserve Bank of India (RBI) Act, 1934 for giving a statutory backing to the aforementioned Monetary Policy Framework Agreement and for setting up a Monetary Policy Committee (MPC). Vide this amendment, it was written into the preamble of the RBI Act that the primary objective of the monetary policy is to maintain price stability, while keeping in mind the objective of growth, and to meet the challenge of an increasingly complex economy, RBI would operate a Monetary Policy Framework. Thus, the amendment provides a statutory basis for a Monetary Policy Framework Agreement and the Monetary Policy Committee. India thereby formally joined the list of nations which tasks its central bank with the responsibility for inflation targeting. This amendment to RBI Act was carried out through the Finance Bill, 2016 presented along with the Union Budget documents. A new Chapter (Chapter IIIF, Section 45Z) was introduced in the RBI Act, through this Finance Bill, 2016, for formalising the inflation targeting regime. The provisions in the Bill become effective once it is passed and notified as an Act of Parliament.


Contents of the present Monetary Policy Framework Agreement
Under the present Monetary Policy Framework Agreement signed on 20 February 2015, the RBI will be responsible for containing inflation targets at 4% (with a standard deviation of 2%) in the medium term (For more details see here). Under Section 45ZA(1) of the RBI Act, 1934, the Central Government determines the inflation target in terms of the Consumer Price Index, once in every five years in consultation with the RBI. This target would be notified in the Official Gazette.

Though the central bank already had a monetary framework and was implementing the monetary policy, the newly designed statutory framework would mean that the RBI would have to give an explanation in the form of a report to the Central Government, if it failed to reach the specified inflation targets. In the report it shall give reasons for failure, remedial actions as well as estimated time within which the inflation target shall be achieved. Further, RBI is mandated to publish a Monetary Policy Report every six months, explaining the sources of inflation and the forecasts of inflation for the coming period of six to eighteen months.

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