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RBI Amended India’s Inflation-Forecasting Model – QPM

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RBI-amends-inflation-forecasting-modelRBI has revised the Quarterly Projection Model (QPM) to enrich the model’s analytics and to capture the interactions between the fiscal and monetary policy with real-economy elements.

  • The revised model is termed QPM 2.0 and it incorporates, fiscal-monetary dynamics, disaggregated fuel pricing (oil price, exchange rate and fuel taxes), the balance of payments and exchange rate interactions.


  • In 2016 RBI has introduced QPM based on the ‘Forecasting and Policy Analysis System’ to provide support for flexible inflation targeting (FIT) framework/ Inflation Forecast Targeting framework in India
  • QPM is structured around a small New-Keynesian open-economy framework.
  • The model captures key India-specific features, especially, in terms of inflation dynamics and characteristics of monetary policy transmission.
  • It describes the model properties in terms of the responses of key macroeconomic variables to different shocks.

About QPM 2.0

  • The new model’s framework was described as a forward-looking, open economy, calibrated, New-Keynesian gap model
  • The model consists of 3 blocks such as fiscal block, fuel block and balance of payments block

i.The fiscal block (1st block): 

  • It decomposes the government’s primary deficit into structural and cyclical components with shocks to the structural component impacting inflation through aggregate demand and country risk premia.

ii.The fuel block (2nd block): It includes India’s complex system of pricing, which includes the items like

  • Petrol and diesel – they are priced based on international oil prices, exchange rates, and local taxes,
  • Liquefied Petroleum Gas (LPG) and kerosene prices – are determined by market
  • Electricity costs – are administered by state governments.
  • The cost-push implications are also incorporated in this block.

Note – Cost-push inflation occurs when overall prices increase (inflation) due to increases in the cost of wages and raw materials.

iii.The balance of payments block (3rd block): 

  • This block incorporates the determinants of current and capital accounts and their interaction with the exchange rate management.
  • It also recognizes the costs associated with a sudden increase in volatility of the exchange rate which is induced by the sudden surges or reversals in capital flows.

Analysis of – QPM based response on “key macroeconomic variables to different case of shocks”

Analysis in Fiscal block: 

i.Case: Structural fiscal deficit shock

  • It will contribute to demand pressures and create a positive output gap. Then the increasing debt could contribute to the depreciation of the currency through elevated country risk premia.


  • The model will necessitate the monetary policy action since the positive output gap and currency depreciation together can lead to higher inflation.

ii.Case: Cyclical fiscal deficit shock

Response: It will have a modest impact on inflation and it is negligible.

Analysis in Fuel block:  

Case: An increase in fuel taxes feeds into higher fuel prices and ex-food fuel inflation through the cost-push channel.


  • It recognizes Headline inflation that goes up by 25bps in response to a fuel tax increase of Rs 10 per litre.
  • If tax reversals do not happen, inflation will remain higher.

Analysis in Balance of payment block:

Case: Capital outflow shock as 1% of GDP


  • In case if RBI intervenes and Sterilises 70% of these capital outflows, the reserves will deplete by 0.7 percentage points of nominal GDP and the exchange rate will depreciate, along with inflationary pressure.
  • In the case of no intervention of RBI, the exchange rate depreciation will be relatively higher.

Recent Related News:

On April 1, 2021, the Government of India has decided to continue the existing inflation-targeting framework which fixed the inflation target (price stability) of 4% with a +/- 2% tolerance band (in the range of 2% – 6%) for the next 5 fiscal years i.e. FY22 to FY26.

About Reserve Bank of India(RBI):

Establishment – 1st April 1935
Headquarters – Mumbai, Maharashtra
Governor – Shaktikanta Das
Deputy Governors – Mahesh Kumar Jain, Michael Debabrata Patra, and M Rajeshwar Rao