The drop in headline inflation to a five-year low of 3.07% by the first week of October should provide optimism to those who expect the Reserve Bank of India to reverse monetary tightening now that inflation is well with its targets. The central bank can certainly claim some credit for the shaving off more than half the inflationary spike over the last nine months. But the softening of prices has a lot to do with the clearing?albeit slow–of supply bottlenecks and somewhat quixotic government policies that ensured prices were artificially kept low. Last year’s good rabi crop, followed by an even better kharif harvest, has helped increase supply and reduce food prices from the double-digit levels at the start of the fiscal to just about 3.7% now. But it is still too early to bank on price stability in food to keep inflation corralled, as several downside risks remain. Consider this: most non-food agriculture prices, like that of fibres and oilseeds, have risen almost unabated at double-digit levels almost through the calendar year.
The impact of quirky government policy, especially the reluctance to pass on to consumers high international crude oil prices, is somewhat starker. For instance the wholesale price index (WPI) shows that the freezing of domestic oil prices, even while the cost of India’s oil import basket has reached an all-time high of more than $80 a barrel, has caused the oil component of the WPI to fall since May this year to about 3% in recent weeks. With the WPI set to ratchet up a few percentage points when consumer fuel prices are finally raised in tandem with global price trends, the comfort offered by the current artificially depressed index will provide little solace. One area where prices have really decelerated is that of minerals with the numbers going down a few decimal points. Softening trends in manufactured goods prices, where the impact of monetary polices are comparatively direct, is more subdued. Manufactured goods prices, which increased by about 6% at the start of the fiscal, decelerated to a little above 4% at end June and remained in the 4-plus range for the last three months, indicating that the pressure on core prices cannot be ignored. RBI would do well to look at these deeper trends before it makes up its mind on a strategy to subdue inflation in the months ahead.