Since inflation based on the consumer price index (CPI) stood at 2.18% for May, the question is: keep a very low inflation cost?
The Reserve Bank of India (RBI) may have an inflation target of 4%, but it should be really worried is the cost of achieving and maintaining a very low inflation rate.
Sometimes even the absence of interest rate cuts to the detriment of growth. Any worthy central bank should be concerned about the growth it is willing to sacrifice in order to reduce inflation to very low levels.
This is especially true because food prices have a heavy weight in the CPI and the deflationary food prices observed in agitation of farmers in the country. Keep in mind that food prices in May 2017 decreased by 1.05% compared to last year.
Although this is an independent argument that promotes long-term inflation, the central bank is always looking at something like the “sacrifice rate.” This ratio is the cost of reducing inflation, the loss of output, which must be borne by the economy to achieve a reduction in core inflation. In statistical terms, it is defined as a ratio of the percentage loss of real output to the 1% reduction in core inflation.
The slaughter rate, according to the RBI’s investigation in 2015, was lower during periods of contractionary monetary policy in phases of expansion.
The RBI household inflation expectations survey shows a downward trend for almost four quarters now.
But how much growth will the central bank to relieve to sacrifice?
Gross value added growth (GVA) at constant prices and 1.32 percentage points was 6.6% in fiscal year 2017 (year 17). The inflation rate fell by 0.41 percentage points to 4.52%.
This makes it appear that the RBI has given up on excessive growth in the pursuit of inflation. In the words of the central bank, the demonetization impact was transitory and the slowdown is mainly due to the slowdown in investment demand.
If we take the true GVA growth forecast of 7.3% for the RBI 18 years and assume that the central bank could reach the inflation target of 4% this year, a poorly calculated slaughter rate (assuming the potential growth rate Of India’s economy by 9 per cent).
This means that for every 1 percentage point decrease in inflation, the RBI can destroy 3.4 percentage points of growth. This looks like a high price to pay, but a lot will depend on what the potential growth rate is actually and there is little agreement about this.
However, the concept of “slaughter rate” highlights the fact that forcing inflation below a threshold level has a cost associated with it. And outside the economic cost, the social cost in agriculture deflationary food prices should also be taken into account ….