Inflation control should not eat away growth

People are concerned about food prices

It is the food price inflation that worries a vast majority of the population and not non-food inflation. It the cost of an aircraft or a ship or a car increases steeply, it will not hurt anybody, because the most frequent fliers and travellers are men of means. But food price inflation is not like that. It affects the poor people and the middle class. They will be forced to cut their food consumption and their anger will turn against the government.

Government has taken steps

Finance Minister Pranab Mukherjee claims that it is because of the Central government’s efforts that inflation was brought down from a high of 22% in February 2010 to 8.35% now. He also stated that it will have to be brought down to 5% further to mitigate the sufferings of the people. Of course, the government has taken steps to ease the life of the poor through its MGNREGS scheme. Now, in view of the global meltdown, the high price of many commodities including crude oil is coming down and that will be a solace to India. The writing off of farmers’ loans has also helped poor people a great deal. Crude oil is still ruling high above $100 per barrel in international markets. In 1991, the price of oil was $16 and when the UPA government assumed office first in 2004, it was at $36. Even after the price increase effected several times on petrol, diesel and LPG, the under recovery of oil companies worked out to a mind-boggling Rs.122000 crore.

Why subsidise the rich?

The government’s move to raise the diesel price for cars is correct. Why should the affordable people who own cars be subsidised? Unlike the USA, there is no Republican Party in India to oppose this move of the government. Out of the total diesel availability, 10% is used by industries, 6% by Railways, 12% by agriculture, 8% by power generation companies, 12% by buses, 37% by trucks and 15% by cars.

Colossal waste

C. Rangarajan says that inflation may ease in the last quarter. If the monsoon turns adverse, food price will again start rising. Food inflation this time is triggered by the rise of vegetables, fruits and eggs. 40% of the vegetables and fruits produced in India go waste every year due to lack of storing facilities. This wastage amounts to a colossal Rs.58000 crore every year – much more than the entire production of fruits and vegetables in Britain. If the government spends Rs.50000 crore alone or jointly with private sector to create cold storage facilities, then this wastage can be avoided and inflation can be controlled.

Inflation will erode FD advantage

Subba Rao, RBI Governor feels that rate hike is necessary to curb inflation. If inflation is due to excess money supply, then RBI Governor’s prescription is correct. But in the present context, food price hike is due to demand supply mismatch which in turn is due to wastage of food produced. Under the circumstances, an interest rate hike will not bring in the desired results. Only fiscal measures can bring the desired solution to the problem. Rate hike will only help the fixed deposit investors to enjoy more returns. But here again, the fixed deposit return can be eroded by high inflation and the investor is a net loser. But he has no choice.

USA doing right thing at wrong time

On repeated rate hikes by RBI targeting inflation, growth can suffer. This can reduce India’s GDP growth to below 8%. RBI feels that containing inflation is crucial to growth. But the measures to contain inflation are hampering growth. In other words, the medicine is aggravating the disease. If certain policy measures are taken on a long term basis, inflation will come to more manageable levels. A cut in public expenditure gradually can help for example. This is what USA is doing now, but it is doing this right measure at a wrong time when growth is tapering. Level of subsidies provided should be reduced over a period of time. Next, an atmosphere to create growth should be made. In that case, growth can overtake inflation and it will not hurt people greatly. FDI in retail may bring about reduction in food price at the retail level due to better distribution of food items and competition. Inflation has made Indians to spend Rs.5.8 lakh crore more in the period 2008-11. Paving the way for GST will also ease the constraints and reduce inflation. Unrealistic assumptions made while fixing fiscal deficit targets have come unstuck and may hurt efforts to control inflation.

RBI feels helpless

RBI may be targeting inflationary control through its monetary policies. But rising commodity prices due to speculation, increased fuel subsidies and risk of overshoot in government borrowing are the factors which will make RBI’s task more difficult. In fact, RBI Governor himself admitted that inflation targeting is not feasible in India. RBI Committee has also stated that inflation will persist for more time to come. Continuing uncertainty about energy and commodity prices may damage the investment climate. A higher than budgeted fiscal deficit, negative real rates and the need to contain second round effects of the food and energy shocks will keep the central bank of a country in a tightening mode. Of course, a good farm output will bring down inflation to around 6%.

Emerging economies exhibiting growth

Price of grain and oil are climbing in part because of strong growth in China, India and other emerging economies. These emerging economies have shown the developed world a clean pair of heels ever since the global financial crisis began in 2008. Taming prices should not result in a trade off of growth. But at the same time, soaring prices should not be allowed to affect growth. It is a tight rope walking exercise for the Central Bank of a country and the government. Ultimately, the tool kit to fight inflation should be a mix of interest rates, exchange rates, fiscal tightening and capital controls. Prices have to be narrowed down between farm gate and the retail shop. Middlemen loot money at the cost of consumers and farmers. The government’s actual record of actions, omissions and commissions that could redress common man’s concerns about inflation leaves much to be desired.