Indian Government, Central Bank Set Inflation Targets

India's government has signed a deal with the central bank to set formal inflation targets for the first time, seeking to end damaging price volatility in the country of 1.2 billion people.

Rising food prices cause huge hardship for India's millions of poor and central bank governor Raghuram Rajan has made controlling inflation a priority since taking the helm of the Reserve Bank of India (RBI), resisting calls to reduce interest rates.

The agreement, signed on February 20 and released late Monday, sets the central bank a target of bringing inflation consistently below 6 percent by January next year, and to 4 percent for the 2016/17 financial year.

If it fails to meet the targets, the RBI will have to set out the reasons in a report to the government detailing the remedial action it plans to take.

The RBI previously had a general mandate to ensure price stability, but no formal inflation targets.

Economists welcomed the move, which they said would also place the onus on the government to avoid overspending and adding to inflationary pressures.

"The adoption of the new framework also increases the responsibility of the government to maintain fiscal prudence as fiscal slippage especially on account of higher unproductive spending would be inflationary," said YES Bank economists in a report.

Finance Minister Arun Jaitley said in Saturday's budget the government would achieve its goal of cutting the fiscal deficit to 4.1 percent of gross domestic product (GDP) for 2014/2015, but would delay by a year the goal of cutting it to 3 percent.

The RBI cut interest rates by 25 basis points to 7.75 percent in January, the first reduction in 20 months, after inflation eased, helped by lower fuel prices.

India's consumer inflation rose to 5.11 percent year-on-year in January, up slightly from 5.0 percent in December, while wholesale prices eased 0.39 percent.

But Rajan has warned that future rate cuts would depend on prudent government action including "sustained high quality fiscal consolidation" as well as continuing falling prices.