The Hindu : Business : Reforms had significant impact on monetary policy

Online edition of India's National Newspaper
Friday, Dec 24, 2004

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Reforms had significant impact on monetary policy — RBI report

By Our Special Correspondent

MUMBAI, DEC. 23. The Reserve Bank of India today stated that structural reforms initiated in the Indian economy in the early 1990s had a significant impact on the conduct of monetary policy in terms of its objectives, strategies and tactics.

"An assessment of monetary management since early 1990s shows that monetary policy has been reasonably successful in meeting its key objectives, price stability, flow of credit to productive sectors and ensuring financial stability,'' the RBI stated in its "Report on Currency and Finance 2003-04,'' which is prepared by the RBI's Department of Economic Analysis and Policy.

In assessing the conduct of monetary policy during the recent years, it needs to be stressed that during this period, the Indian economy witnessed a large number of shocks, both global and domestic.

These shocks included a series of financial crisis in Asia, Brazil and Russia, September 11 terrorist attacks in the U.S., border tensions, sanctions imposed in the aftermath of nuclear tests, political uncertainties and changes in the Government.

The monetary policy in India had to manage all such shocks, and, viewed in this light, the success in maintaining price and financial stability is all the more credible.

In this regard, it needs to be noted that financial stability does not exclude interest rate cycles. Accordingly, the RBI has been preparing market participants for these cycles and they have also been advised to hedge their exposures.

As the international experience indicates, a prudent fiscal policy remains the single largest pre-requisite for monetary stability. Reforms in the monetary-fiscal interface during the 1990s have been a key factor that imparted greater flexibility to monetary policy.

These reforms have taken a significant step forward with the enactment of the Fiscal Responsibility and Budget Management Act, 2003. Strict adherence to these fiscal rules in letter and spirit will help stabilise inflation expectations and, in turn, keep inflation low and stable in the country while gradually providing increasing flexibility to the RBI.

Fiscal discipline creates enabling conditions for monetary and financial stability. Monetary policy will have, however, still to grapple with uncertainty in the environment it operates. Uncertainty about how economies operate and about monetary policy itself is, however, no excuse for not pursuing price stability. An environment of sustained low and stable inflation is conducive for financial savings, with beneficial impact on investment in the economy and for sustained growth and employment. Price stability is all the more important for an economy like India, with a large proportion of poor population that has no hedges against inflation.

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