Neven though RBI has raised the policy by 50 basis points to rein in inflation, the probability of inflation, as measured by the consumer price index (CPI), remaining higher than the tolerance band of RBI is increasing by the day. The risks come primarily from three factors: depreciating rupee, fast depleting grain stocks, especially wheat, and vagaries of weather in the face of climate change. Let me explain these in a bit of detail, and what policy options Indian policy makers have in this regard.
On the fast depreciating rupee, one thing is very clear: As the US Federal Reserve raises its interest rates, there is going to be pressure on Indian rupee and many other currencies around the world. We may get some consolation that our rupee so far is holding out relatively better than many other major currencies, be it Japanese yen or British pound. But even a 10% depreciation in rupee since January 2022 is posing risk of imported inflation, especially through crude oil and gas, fertilisers, edible oils, and so on.
RBI has already spent more than $80 billion to support Indian rupee, and there are limits to which it can go. And if RBI tries to hold Indian rupee artificially high, it will adversely hit Indian exports, widening current account deficit and putting further pressure on the rupee. The best that RBI can and should do is to avoid a sudden and abrupt fall in the value of the rupee, but allow it to find its natural level given what is happening globally, especially in currency markets.
The bottom line is that the risks of higher inflation from falling rupee are very much there and likely to continue for at least one year, if not more. On this, one should read not as much from what RBI or ministry of finance says, but more importantly what Jerome Powell, the chair of Federal Reserve of USA is saying.
Powell is committed to bring down inflation in the US to 2% from the current levels of more than 8%. Although the time frame he has in mind is 2-3 years, indicating it will not be a hard landing, he is still increasing interest rates by 75 basis points each time.
The writing for Indian policy makers is on the wall. If they have to circumvent this, they have to have innovative policies to promote exports and attract more foreign direct investment (FDI).
On depleting grain stocks, as of now, there is no immediate alarm, especially for rice. But the Cabinet’s decision to extend the PM-Garib Kalyan Anna Yojana (PM-GKAY) by another three months will put pressure not only on stocks but also on the fisc.
The fiscal deficit of the Centre may be higher than what is provisioned in the Budget for FY23. The fact that the finance ministry was not in support of extending this free-food scheme beyond September-end was economically rational, more so as Covid-19 is behind us and the economy is back to its normal activity level. But given that the Gujarat Assembly elections are around the corner, the Cabinet may have thought it politically useful to extend the scheme till December-end. And politics will always win over economic rationality.
In this context, it may be useful to recall that even the National Food Security Act (NFSA) of 2013 was passed keeping the 2014 general elections in view, with the UPA hoping to stay in power through this almost-free food policy (Rs 3/2/kg for rice/wheat). But alas, the UPA still lost. Yet, the dilemma for NDA was how to keep it in limits of fiscal prudence. Despite NFSA having inbuilt provision that after three years, the issue prices for PDS supplies can be revised, NDA failed to do it and the burden of food subsidy kept piling up.
It got spiked when PM-GKAY was announced in April 2020 in the wake of Covid-19’s first wave in the country. At that time, it was perhaps necessary to support all those who lost their jobs. But doubling free rations depleted the bulging stocks of grains fast. Now with wheat procurement having plummeted, there is a concern whether stocks are enough to curb inflationary expectations in the country.
To replenish the wheat stocks in Food Corporation of India godowns, the government will have to raise minimum support price (MSP) of wheat quite substantially. For rice, the current stocks are ample, but given the monsoon vagaries, the incoming rice crop is going to be about 7 million tonnes lower than expected. It is time to realise that this free-food scheme of PM-GKAY will be difficult to extend beyond December without putting undue burden on MSPs and on the fiscal deficit. The best policy option will be to fix issue prices of PDS supplies at half the MSP, and limit the PDS coverage to 30% of bottom population.
Climate change is an increasing concern. It will haunt our policy makers in the months and years to come. It is a fact that India is going to have increasing intensity and frequency of extreme events (heat waves, droughts, floods, etc). We may keep putting the blame on developed economies and ask for climate justice, yet we will have to act fast and boldly on correcting our own policies that create GHG emissions and make the situation worse.
Almost free power, free water, and highly subsidised urea are some of the policies that are damaging natural resource environment. If we have to tame food inflation, we will have to invest more in climate smart agriculture, in precision farming, with high productivity and less damage to natural resources.
The science and technologies are there to help us, but they can’t succeed in scaling up if the policy eco-system is perverse. And the call to set it right rests with the Cabinet. So far one sees only baby steps in this direction. India has a long way to tame inflation.
The author is Distinguished Professor, ICRIER
Views are personal