The resurgence of inflation has hampered India’s post-pandemic economic recovery, despite three consecutive months of softening. Inflation has recently risen significantly, prompting the Reserve Bank of India to adopt an inflation-targeting stance by raising interest rates. However, the battle to control inflation continues, and recent data casts doubt on whether the RBI’s efforts are sufficient.
Inflation
- Inflation is defined as an increase in the price of goods and services purchased by households. The rate of change in those prices is used to calculate it.
- Prices typically rise over time, but they can also fall (a situation called deflation).
Consumer Price Index (CPI)
- The CPI measures changes in the cost of living over time.
- When the CPI rises, the average Indian family must spend more money on goods and services in order to maintain their standard of living.
- Inflation is the economic term used to describe rising prices for goods and services.
Forecast for Inflation
- Inflation target set by the RBI: The RBI is required by the inflation targeting framework to achieve a CPI consumer price index inflation target of 4%.
- During the pandemic, inflation remained within the target range: CPI inflation averaged 5.9 percent from March 2020 to September 2021, during the pandemic period. This was higher than the point target of 4% but still within the inflation target range of 2-6%.
- The outlook for inflation has deteriorated: In 2022, CPI inflation exceeded the upper limit of the RBI’s targeting band for ten consecutive months, indicating that the target was not met for three quarters in a row.
- Optimism that inflation has begun to soften: CPI inflation had fallen to 5.7% by December 2022. Many people assumed that the inflation peak had passed and that inflation was on its way to the official target.
- This optimism was premature: underlying inflationary pressures remain. Inflation fell sharply in November and December 2022, owing largely to a drop in vegetable prices. CPI inflation was actually higher than 7% when vegetables were excluded.
- The misplaced optimism is now obvious: The January 2023 CPI inflation rate was 6.5 percent, crossing the upper limit of the RBI’s inflation targeting band for the second time.
What factors contributed to the recent increase in inflation?
- Rise in food prices: With food accounting for 46% of the overall CPI basket, a rise in food inflation from around 4% in December 2022 to nearly 6% in January 2023 has played a significant role in overall inflation rising.
- Cereal inflation is skyrocketing: Cereal inflation is one food component that has remained stubborn. Year on year cereal inflation nearly doubled from 5% to 14% between May and December 2022. This will rise to 16% in January 2023. Wheat inflation has been steadily rising among cereals. Wheat inflation increased from 9% to 22% between May and December 2022. It will rise even higher to 25% in January 2023.
- Wheat prices are skyrocketing due to scarcity: According to Food Corporation of India data, stocks in government warehouses have decreased. The government recently approved the open market release of three million tonnes. This, however, is insufficient to replenish market supplies.
- Core inflation remains persistently high: Second, core inflation (non-food, non-fuel) was 6.2 percent in January. This is consistent with the unyielding core inflation of 6% that has been in place for nearly three years. A sustained high level of core inflation indicates that price pressures have become entrenched in the system.
- External factors also play a role: developed-country inflation remains high (6.4 per cent in the US; 8.5 per cent in the EU; 10.5 per cent in the UK). Through international trade in goods and services, India is importing some of the elevated inflation. Furthermore, as China gradually liberalises its economy after nearly three years of zero-Covid restrictions, commodity prices are expected to rise, putting renewed pressure on India’s inflation.
What have the policymakers been doing to address the inflationary concerns?
- The government has contributed by announcing a cautious Union budget for 2023-24: It has prioritised much-needed fiscal consolidation and avoided announcing populist measures that could have fueled demand and thus inflation.
- The RBI has also been doing its job: In just ten months, it raised the policy repo rate from a pandemic low of 4% to 6.50%. Unlike last year, when the monetary policy statements contained no forward guidance despite rising inflation, the RBI in its February 2023 statement emphasised the importance of remaining vigilant on inflation, implying that the monetary tightening cycle is not yet over.
@the end
Despite the RBI’s efforts to control inflation by raising interest rates, inflation has been a challenge for India’s economy since the pandemic. Today, a credible glide path to lower inflation is critical.
Source: https://rbi.org.in/Scripts/PublicationsView.aspx?id=21343