Inflation and Economics

Let me begin by stating that I am no economist. All I had by the way of my link to economics is one paper during my MBA (which I barely managed to clear) and a fascination for Economic Times. Not much, I agree, but one has to make good with what one has.

Economists as a breed always evoked a sense of awe in me. Here were people who could look at the rainfall pattern and then, using some mumbo-jumbo, tell what the exchange rate could be one year down the line.  I walked (and even now, walk) on eggshells around them; economists and astrologers seemed to have more say on our lives than ought to be given to any single stream of academic thought.

No surprise then that I was enthralled when Dr. Manmohan Singh was elected/nominated to be our Prime Minister; the economy was in safe hands I felt. But something went wrong and all of the polity and economy started wobbling. Prices shot through the roof and I immediately sought the salve that I knew Dr. Manmohan would apply on the sore wallets of the nation. I was reassured to see the PM and the FM state on TV that the remedy had been administered and the effect would be felt in another month or so.

The much quoted day came and went by and we were cited another date. And another. And another.  Much the same like swimming towards the horizon, our tryst with the date of redemption kept moving, much to the horror of our collective purse-strings. And after two years, the FM has the gall to do another round of crystal-gazing, another date for the easing of inflation (http://www.thehindu.com/news/national/article2635542.ece).

As I said, I am not an economist, but given that I have an abundance of time and the leash on my spending is tightening by the hour, I tried putting my feeble mind to the problem of price rise. My understanding could be inaccurate and my analysis, incorrect, but please bear with a pained soul and if possible, point out gaps in understanding.

As I see it, this round of inflation has been primarily fueled by food inflation and rising cost of fuels. As can be seen from Table 1 (source: Speech by Deepak Mohanty, Executive Director, Reserve Bank of India, delivered at the Bankers Club, Chennai on September 28, 2010), the average inflation (at wholesale prices and not the retail prices) for the primary articles over 05-06to 09-10 is 9.2% with the 10-11 inflation at 19.3%. The manufacturing inflation, on the other hand, is 4.1 and 5.6 respectively.

Table 1 : Annual WPI Inflation: New vis-à-vis Old Series
(per cent)
Items	Base Year	Weight	Average 2005-06 to      2009-10	2010-11*
WPI- All Commodities	2004-05	100.0	5.5	10.0
	1993-94	100.0	5.4	10.6
1. Primary Articles	2004-05	20.1	9.2	19.3
	1993-94	22.0	7.9	16.8
2. Fuel & Power	2004-05	14.9	5.9	13.5
	1993-94	14.2	4.2	13.6
3. Manufactured Products	2004-05	65.0	4.1	5.6
	1993-94	63.7	4.8	6.8
Memo items
a. Food Articles & Food Products	2004-05	24.3	8.1	14.2
	1993-94	26.9	7.7	10.2
b. Non-Food Manufactured Products	2004-05	55.0	3.7	5.5
	1993-94	52.2	4.2	7.2
* relates to the period April-August.

Source: http://www.rbi.org.in/scripts/BS_SpeechesView.aspx?id=527

The conclusions in the speech are interesting. Mr. Deepak Mohanty, in the conclusions, states, and I quote “…The high level of food prices is indeed a matter of concern as the prices of protein-based items, which have a higher share in the consumption basket, are showing larger increases. Moreover, there is continuing shortage of food items such as pulses and edible oils. If the supply response doesn’t improve, there is a risk that food price inflation could acquire a structural character.”

An article in Businessinsider even goes to the extent of estimating that inflation has cost Indian consumers $129 billion over the last 3 years (http://articles.businessinsider.com/2011-06-28/markets/29982775_1_wholesale-price-index-food-inflation-price-trends#ixzz1e2UiX7uD).With the poorest 10% of Indian population spending close to 60% of their household budget on food, things have come to a head.

Source: This has been sourced from http://www.worldbank.org/foodcrisis/foodpricewatch/april_2011.html which in turn sourced it from DECDG. The data are from household surveys in the respective countries for various years.

The next contributing factor to inflation, as I see, is the high prices of fuels, be they petrol, diesel, LPG, or coal. Of course, energy resources are something that we unfortunately lack in our country. But that doesn’t mean that we are completely in the hands of others, there are ways to atleast insulate ourselves from shocks. Projects like Iran – Pakistan – India pipeline, which would have ensured supply of gas at consistent rate have been shelved bowing to foreign powers, nuclear power being promised as an alternative. And with the recent accident in Japan and the diluted notification of nuclear liability rules (http://www.thehindu.com/news/national/article2633545.ece), civil society has a legitimate reason to distrust nuclear power. Yet the government dallies …

And what makes the fuel pinch sting even more is the exchange rate policy RBI seems to follow. RBI has allowed market to determine the exchange rate for quite some time now. I do not fault the thought behind the policy, though I am not too sure of the theory behind the thought. But, as Sugata Ghosh lucidly explains in an article in ET (http://articles.economictimes.indiatimes.com/2011-11-14/news/30397740_1_dollar-index-rupee-dump-dollars), when RBI comes out with statements that states clearly that it doesn’t plan to intervene in the markets, it is akin to giving a license to the speculators to play havoc. And that is what seems to have happened. Many economists since seem to agree with RBI on in stance (http://economictimes.indiatimes.com/news/economy/policy/rbi-concedes-it-may-be-difficult-to-shore-up-falling-rupee/articleshow/10774495.cms?curpg=1), but I am no economist, and I don’t (not that it matters anyway)

Let us see what are the other measures that the government/RBI has taken. RBI has deemed it fit to raise the rates as many as 13 times since March 2010. Now this is something that astounds me. As RBI itself agrees, the WPI inflation is primarily due to food inflation, the manufacturing inflation been almost same as it was in 93-94 (Refer Table 1). As I see it, people have to eat irrespective of the interest rates on lending and borrowing. I am not going to stop buying onion, tomato, pulses or oils, starve myself and deposit the money thus saved in an FD to take advantage of the high interests being offered. Yet RBI seems to think so. And I worry that this policy of rate hikes would increase the borrowing costs so much that it would impact the already slow industrial growth.

The current round of inflation is clearly out of RBI court, it’s the government that ought to respond with policy decisions and corrections; RBI is just making the best that it can of a bad situation. So let us see what the government has done. Large swathes of fertile land are still being acquired for F1 race tracks, car plants, mining mafias. There is no clarity on the land acquisition policy with ministers taking different stance depending on the day of the week, weather conditions and the number of snails crossing the road.  “Green Revolution – II”, a term that Hon. PM has been using for quite sometime now, still remains that, a catchy slogan. If farmers’ suicide is taken as a proxy, then an average of one farmer commits suicide every 32 minutes in India (www.un.org/esa/sustdev/csd/csd16/PF/.../farmers_relief.pdf). And the FM has the gall to scry and give us another date for easing of inflation. Would have been funny if it was not so painful…

As I said in the very beginning, I am no economist. I did not, by the way of inserting references, tables and graphs, intend to give this an appearance of an academic paper; this is just a plaintive cry of a curious mind. Maybe it’s time to study economics; as Joan Robinson rightly puts it, “The purpose of studying economics is not to acquire a set of ready-made answers to economic questions, but to learn how to avoid being deceived by economists.”