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India’s monetary policy is financially inclusive by design and the benefits of such a strategy will be visible in future, Reserve Bank of India (RBI) deputy governor Michael Patra said on Friday.

“India’s monetary policy is by design financially inclusive, and it will reap the benefits of this strategy in the future in terms of effectiveness and welfare maximization," Patra said at an event hosted by IIM Ahmedabad.

Financial inclusion appears to be the lowest in rural, agriculture-dependent areas where food is the main source of income, he said, adding that when food prices rise, the extra income earned by the financially excluded is not saved but instead consumption increases, leading to higher aggregate demand.

“In this kind of a situation, the efficacy of monetary policy in achieving its stabilization objective increases by targeting a measure of prices that includes food prices rather than one that excludes them such as core inflation. The lower the level of financial inclusion, therefore, the stronger is the case for price stability being defined in terms of headline inflation rather than any measure of core inflation that strips out food and fuel," he said. In India, food accounts for 46% of the consumer price index (CPI), among the highest shares anywhere in the world. Furthermore, the CPI combines a rural index and an urban index, with the share of food being even higher in the rural index at 54.2%.

“It is in this context that the monetary policy framework overhaul in 2016 to usher in a flexible inflation-targeting regime wisely chose the headline CPI as its metric for measuring the inflation target rat-her than any measure of core inflation, despite persuasive arguments for the latter that are made even today," he said.

Stabilizing farm incomes and food availability during the pandemic through transfers of both cash and kind has been a key policy mission, Patra said. Coincidentally, financial inclusion appears to have gone up, he said, with the level of RBI’s financial inclusion index rising from 49.9 in March 2019 to 53.1 in March 2020 and further to 53.9 in March 2021.

“The responsibility assigned to monetary policy is to keep output close to or at its potential and inflation aligned to its target. Financially included consumers are able to smooth consumption in the face of shocks because of their access to savings (deposits) and credit from the formal financial system in the event of income losses," he said.

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