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Inflation Story Of India

One more variant and consequent lockdowns cannot be ruled out, which may repeat the whole economic disruption cycle again

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Inflation has come to haunt India again, the consumer price index-based inflation in March 2022, was at 6.95 per cent, and food inflation was at 7.68 per cent, this was the highest rate reported since October 2020. For the third month in a row this number printed above 6 per cent, the last threshold level of any comfort for RBI. 

Inflation this time is a global phenomenon resulting from various factors. However, of particular concern is the fact that India has the highest inflation] rate among the larger Asia Pacific economies.  

The RBI’s expected inflation rate was 5.7 per cent for the financial year 2023, which too has been revised upwards quite recently from 4.5 per cent factoring crude at USD 100 a barrel, but such a target looks ambitious given the current circumstances. 

The impact of inflation was felt at the wholesale level for some time now and is now translating into higher retail prices.  The increased inflation has been primarily driven by crude oil and base metals on the wholesale front and edible oils on the CPI. The food inflation in April has already increased indicating that the pass-through of inflation has already started.   

Food inflation which started with only edible oils and certain vegetables in the basket may now spread to other items. The food and agricultural organisation's (FAO) latest food price index shows a 29.8 per cent year on year increase for April. The increase stems from all items in the food basket from cereals, vegetables, dairy, etc. 

This indicates that a broad-based food inflation across the world has started due to the war, climatic conditions in certain parts of the world, higher crude prices, export controls on food and other reasons. However, the transmission of this into local inflation depends more on the import patterns, we have already seen the rise in the price of edible oils. 

The problem will be more profound if cereals like wheat have to be imported. The heatwave in March has impacted yields, in what was expected to be a bumper crop and put pressure on public stocks and government procurement plans. Export demand is also helping other agricultural products realisation well above the minimum selling price (MSP). 

The respite however is that there is no inflation seen in some products like pulses, sugar, vegetables and fruits. The government may come up with a plan to announce MSP for Kharif crops, ensuring availability of inputs like seeds, fertilisers, credit, procurement policy etc, which will help in smooth management of food prices. One may still conclude that we are still protected for now against food inflation and pray for a good monsoon.  

The rising inflation rates are impacting the savings potential of a vast majority of the population and those categories who invest in traditional assets like FDs and gold, the real return on these investments has already turned negative. 

The increase in loan commitments will also have an impact on the savings potential where the gross savings rate at 28 per cent as of 2021, has already been declining for a couple of years now. 

The central government has a risky balancing act before itself in managing the fiscal deficit and keeping inflation under control.  The latter is more of a political goal as well, for any government. 

There have been calls to cut excise duty on fuels to check the inflationary pressures, yet despite two such cuts in the recent past, there has been no relief on the ground due to the continuous rise in crude prices globally, the depreciation of the rupee added further to the pressure. Contained inflation would have allowed RBI little more room to keep interest rates lower, however, such a luxury looks increasingly unlikely. 

All the major central banks have decided to raise interest rates have to be raised to contain inflation, RBI has been in a wait and watch mode and has fallen behind in the rate hikes. It has now been pushed to the corner to act. 

The inflation is now broad-based and in particular seen in the food and energy prices. The strain on global supply chains due to the ongoing war in Ukraine will only mean that there may be no respite in the short term. The RBI’s accommodative stance to help growth which has just started may not help after 3 straight months of rising inflation.   

The geopolitical tensions coupled with the Fed increase of interest rates have already impacted Foreign Institutional Investors, FIIs have pulled out USD 20 billion from Indian markets (net) in the six months ending March 2022. The RBI cannot control such capital outflows and this is putting immense pressure on the rupee and makes crude oil and other imported goods more expensive translating to higher inflation and pressure on government finances in form of additional debt servicing costs also built up.  

There have been expectations that the inflation is transient and will moderate soon, however, those expectations proved incorrect. 

RBIs accommodative stand towards promoting growth appears to have got some success as credit offtake in March 2022 has shown an increase of 10 per cent, showing some signs of the economy’s return to normalcy, and also the central governments push like Productivity Linked Incentives (PLI) aiming to enhance capital formation. 

The main concern with an interest rate hike will be the shock to the nascent growth coming up after Covid-19.  

The RBI monetary policy committee (MPC) on 4 May 2022 held an emergency meeting and finally acted by putting an end to the low-interest rate regime. It increased the Repo rate by 40 basis points to 4.40% and Cash Reserve Ratio (CRR) by 50 basis points to 4.50 per cent. 

It is expected that the CRR increase itself will squeeze out Rs 87,000 cr from the economy. The RBI however in its statement mentioned the fallouts of the hike on the growth and the need to balance growth and inflation together. 

The MPC also believes that core inflation will likely remain high for a few more months due to higher fuel prices. The current hike however will not be one-off and needs to be followed through as the fight against inflation this time will be long-drawn, the fight may have started a bit too late. 

The global events are also not supportive either. It may need another 3-4 rounds of hikes and at least 150 bps more to reach 6 per cent on the repo rate to contain the inflationary pressures, but that may also come in at the cost of growth particularly when Covid-19 is still wreaking havoc in China and elsewhere. 

One more variant and consequent lockdowns cannot be ruled out, which may repeat the whole economic disruption cycle again.  

There is however some hope that the monsoon this year is expected to be normal at 98 per cent of the long term average, which may provide some relief on food. The concerns around the war in Ukraine and geopolitical tensions are also expected to abate in the second half of the year. 

China recovering from Covid-19 will also bring some relief to the global supply chains. These factors coupled with the tightening of the monetary policy by RBI may bring the desired result towards the end of the calendar year.  

Disclaimer: The views expressed in the article above are those of the authors' and do not necessarily represent or reflect the views of this publishing house. Unless otherwise noted, the author is writing in his/her personal capacity. They are not intended and should not be thought to represent official ideas, attitudes, or policies of any agency or institution.

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Vivek Raju

Dissemination and Publications

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