When prices rise too fast, people's savings and wages lose value. To keep prices stable, India follows a system called flexible inflation targeting. Under it, the government sets an inflation target and the Reserve Bank of India (RBI) must try to meet it. The interest rate decisions are taken by a six-member Monetary Policy Committee (MPC). Exams ask about the target, the MPC's members and what happens when the target is missed. This post explains them in simple words. It ends with 15 previous year questions.
Key Points (Quick Revision)
- India's inflation target is 4% CPI inflation, with a band of 2% to 6%.
- The Urjit Patel Committee (2014) recommended inflation targeting and an MPC.
- The Finance Act, 2016 amended the RBI Act to give the framework a legal basis.
- The MPC has six members and is chaired by the RBI Governor, who has a casting vote.
- In March 2026, the target was kept at 4% (2-6%) for April 2026 to March 2031.
1. What is inflation targeting?
Inflation targeting means the central bank publicly aims for a fixed inflation rate and uses its tools, mainly the policy interest rate, to reach it. India's system is flexible because:
- There is a band of 2% on either side, not just a single number.
- The RBI also keeps economic growth in mind while controlling inflation.
New Zealand was the first country to adopt inflation targeting, in 1990. Many countries followed later.
2. How India adopted it
| Year | Step |
|---|---|
| 2014 | Urjit Patel Committee recommended CPI as the main anchor, a 4% target and an MPC |
| 2015 | Monetary Policy Framework Agreement signed between the government and the RBI |
| 2016 | Finance Act, 2016 amended the RBI Act; target of 4% (2-6%) notified till March 2021; MPC set up |
| 2021 | Target kept the same for April 2021 to March 2026 |
| 2026 | Target kept the same for April 2026 to March 2031 |
3. The legal framework
- Section 45ZA of the RBI Act: the central government, in consultation with the RBI, sets the inflation target once every five years.
- Section 45ZB: provides for the Monetary Policy Committee.
- The target is based on CPI (Combined) inflation, released by the National Statistics Office (NSO) under MoSPI.
- The RBI publishes a Monetary Policy Report every six months, explaining inflation trends and forecasts.
4. Monetary Policy Committee (MPC)
| Point | Detail |
|---|---|
| Members | Six - three from the RBI and three external members |
| RBI members | Governor (chair), the Deputy Governor in charge of monetary policy, and one RBI officer nominated by the RBI Board |
| External members | Appointed by the central government on the advice of a search-cum-selection committee |
| Term of external members | Four years; not eligible for reappointment |
| Meetings | At least four a year; in practice about six (every two months) |
| Quorum | Four members, including the Governor or, in his absence, the Deputy Governor |
| Voting | One vote each; in a tie, the Governor has a casting vote |
| Minutes | Published on the 14th day after the meeting |
The first MPC meeting was held in October 2016.
5. What the MPC decides
- The MPC decides the policy repo rate, the rate at which the RBI lends to banks for the short term.
- It also announces its stance, such as accommodative, neutral or withdrawal of accommodation, which signals the likely direction of rates.
- The other rates move with the repo rate. Since April 2022, the Standing Deposit Facility (SDF) is the floor and the Marginal Standing Facility (MSF) is the ceiling of the rate corridor.
- Tools like CRR and open market operations are handled by the RBI, not voted on by the MPC.
A cut in the repo rate usually makes loans cheaper over time; a hike makes them costlier. This passes to borrowers through the EBLR and MCLR systems.
6. When the target is missed
- The RBI is said to fail if average inflation stays above 6% or below 2% for three consecutive quarters.
- It must then send a report to the central government explaining the reasons, the remedial steps and the time needed to bring inflation back to target.
- This happened for the first time in 2022, when inflation stayed above 6% for the first three quarters of the year. The MPC held a special meeting in November 2022 to prepare the report.
7. Merits and criticism
| Merits | Criticism |
|---|---|
| Clear goal makes the RBI accountable | Food and fuel prices depend on supply, which interest rates cannot fix |
| Helps anchor people's inflation expectations | Too much focus on inflation may hurt growth and jobs |
| Committee voting brings more views into decisions | Rate changes reach borrowers only slowly |
Overall, inflation in India has been lower and more stable on average since the framework began, though shocks like COVID-19 and global price spikes tested it.
8. Previous year questions
- Which committee recommended inflation targeting for India? – Urjit Patel Committee (2014)
- What is India's inflation target? – 4% CPI inflation, with a band of 2% to 6%
- Which price index is used for the inflation target? – CPI (Combined)
- In which year was the Monetary Policy Framework Agreement signed? – 2015
- Which Act amended the RBI Act to set up the MPC? – Finance Act, 2016
- Which section of the RBI Act deals with the inflation target? – Section 45ZA
- Who sets the inflation target? – Central government, in consultation with the RBI
- How often is the inflation target set? – Once every five years
- How many members are there in the MPC? – Six
- Who chairs the Monetary Policy Committee? – RBI Governor
- Who has the casting vote in the MPC? – RBI Governor
- What is the term of external members of the MPC? – Four years
- When is the RBI said to have failed to meet the target? – Average inflation outside 2-6% for three consecutive quarters
- Which country first adopted inflation targeting? – New Zealand (1990)
- Which facility became the floor of the LAF corridor in 2022? – Standing Deposit Facility (SDF)
9. How to revise this topic
Start with the target: 4% CPI (Combined), band 2-6%, set by the government with the RBI every five years under Section 45ZA.
Next, learn the timeline: Urjit Patel Committee 2014, Agreement 2015, Finance Act 2016, renewed 2021 and again in March 2026 (till March 2031).
Then fix the MPC: six members (3 RBI + 3 external), Governor chairs with casting vote, external term four years, quorum four, minutes on the 14th day.
Finally, remember failure: three consecutive quarters outside the band, report to government; first time in 2022.
10. Frequently Asked Questions
What is inflation targeting?
Inflation targeting is a system in which the central bank aims for a fixed inflation rate. In India, the target is 4% CPI inflation with a band of 2% to 6%.
What is the Monetary Policy Committee?
The MPC is a six-member committee chaired by the RBI Governor. It decides the policy repo rate needed to meet the inflation target.
Who appoints the external members of the MPC?
The central government appoints the three external members on the advice of a search-cum-selection committee. They serve for four years and cannot be reappointed.
What happens if the RBI misses the inflation target?
If average inflation stays above 6% or below 2% for three consecutive quarters, the RBI must send a report to the government with reasons, remedial steps and a timeline.
Till when is the current inflation target valid?
In March 2026, the government kept the 4% target with the 2% to 6% band for the period from April 2026 to March 2031.
For more Economy topics in simple language, see our Monetary Policy, Repo Rate, CRR and SLR, WPI vs CPI and MCLR and EBLR posts, or browse the Economy section. Preparing for a bank exam? Start with the RBI Grade B guide or join the 100 Hour GS Course.