Central Idea

• India’s post-pandemic economic recovery has hit a roadblock with the resurgence of inflation, hindering progress despite three consecutive months of softening. Recent significant spike in inflation, leading the Reserve Bank of India to adopt an inflation-targeting stance by raising interest rates. However, the battle to curb inflation is still ongoing, and the latest data raises doubts about whether the RBI’s efforts are sufficient.

What is Inflation?

• Inflation is an increase in the level of prices of the goods and services that households buy. It is measured as the rate of change of those prices.
• Typically, prices rise over time, but prices can also fall (a situation called deflation).

Consumer Price Index (CPI)

• CPI is used to monitor changes in the cost of living over time.
• When the CPI rises, the average Indian family has to spend more on goods and services to maintain the same standard of living.
• The economic term used to define such a rising prices of goods and services is Inflation.

Inflation outlook

• RBI’s Inflation target: The inflation targeting framework mandates the RBI to achieve a CPI consumer price index inflation target of 4 per cent.
• Inflation during the pandemic was still within the target band: During the pandemic period of March 2020 to September 2021, CPI inflation averaged 5.9 per cent. This was higher than the point target of 4 per cent but still within the inflation targeting band of 2-6 per cent.
• Inflation outlook has been worsening: In 2022, CPI inflation was above the upper threshold of the RBI’s targeting band for 10 consecutive months, which meant the target was not achieved for three quarters in a row.
• Optimism that the Inflation began softening: By December 2022, CPI inflation was down to 5.7 per cent. This led many to believe that the inflation peak had passed, and that inflation was on its way to the official target.
• This optimism was misplaced: Underlying inflationary pressures still persist. The softening of inflation in November and December 2022 was largely driven by a steep fall in vegetable prices. Excluding vegetables, CPI inflation was in fact more than 7 per cent.
• The misplaced optimism has now become evident: The January 2023 CPI inflation came out to be 6.5 per cent, once again crossing the upper threshold of the RBI’s inflation targeting band.

Back to basics: Core Inflation

• The core inflation rate measures rising prices in everything except food and energy.
• That’s because gas prices tend to escalate now and then. Higher gas costs increase the price of food and anything else that has large transportation costs.

What contributed to the latest spike in inflation?

• Rise in food prices: With food accounting for 46 per cent of the overall CPI basket, a rise in food inflation from roughly 4 per cent in December 2022 to almost 6 per cent in January 2023 has played an important role in overall inflation going up.
• Cereal inflation is soaring high: Within food, one component that has proved rather stubborn is cereal inflation. Between May and December 2022, year-on-year cereal inflation nearly doubled from 5 per cent to 14 per cent. In January 2023, this increased to 16 per cent. Within cereals, inflation in wheat has been steadily going up. Between May and December 2022, wheat inflation increased from 9 per cent to 22 per cent. It increased even further to 25 per cent in January 2023.
• The steep rise in wheat prices reflects shortages: Data from the Food Corporation of India shows that stocks in government warehouses declined. The government has recently approved a release of three million tonnes in the open market. However, this is insufficient to restore market supplies.
• Persistently high core inflation: Second, core (non-food, non-fuel) inflation in January came out to be 6.2 percent. This is consistent with the unyielding core inflation of 6 per cent for nearly three years now. A persistently high core inflation implies that price pressures have become entrenched in the system.
• External factors also play a role: Inflation in developed countries continues to be high (6.4 per cent in the US; 8.5 per cent in the EU; 10.5 per cent in the UK). India is importing some of this elevated inflation through international trade in goods and services. Moreover, with China gradually opening up its economy after nearly three years of zero-Covid restrictions, commodity prices are likely to go up, which could exert renewed pressures on India’s inflation.

What have the policymakers been doing to address the inflationary concerns?

• The government has done its bit by announcing a conservative Union budget for 2023-24: It has accorded primacy to much needed fiscal consolidation, and has refrained from announcing populist measures that could have arguably fuelled demand, and hence inflation.
• The RBI has been doing its job as well: It increased the policy repo rate from a pandemic low of 4 per cent to 6.5 per cent in a span of 10 months. Unlike last year, when despite rising inflation, the monetary policy statements did not contain any forward guidance, the RBI, in its February 2023 statement, emphasised the importance to remain alert on inflation, thereby hinting that the monetary tightening cycle is not over yet.

Conclusion

• Inflation has been a challenge for India’s economy post-pandemic, despite the RBI’s attempt to control it by raising interest rates. A credible glide path to bring inflation down is essential today.

Mains question

Q. Despite of RBI’s efforts there is significant spike in inflation In India. Discuss the factors that contributed to the latest spike in inflation in India and what are the policymakers doing to address inflationary concerns?

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