A fine balancing act is needed from RBI on inflation as the government moves to address farm distress
Just ahead of the June monetary policy meeting, India’s April inflation print, at 4.6%, has reversed the three-month slide in inflation since January 2018. In the details, the core inflation (excluding, food, petrol and diesel) number rose to 5.8%, the highest since 2015. Core inflation has remained above 4.5% since 2015.Even excluding housing, core inflation jumped from 5% in March to 5.4% in April. The rise in “miscellaneous” category is particularly striking—80bps higher in April compared to March. The rise is broad-based across categories like health, education, recreation, personal care, household goods, and transport & communication. Interestingly, rural inflation in this category is over 100 bps higher than urban areas indicating the persistent infrastructure bottlenecks in the rural areas.
Apart from a rising core, the other more critical aspect of inflation is the movement in food prices. Sequential momentum in headline inflation is led primarily by food-price volatility which accounts for almost 40% of the inflation basket. Long-term trend shows that containment of CPI inflation from a high of 9.4% in FY14 to 3.6% in FY18 has been driven primarily by moderation in food prices.
Almost 70% of the disinflation can be attributed to food categories like vegetables, milks, cereals and pulses. Food inflation has fallen sharply from 12% in FY14 to 1.8% in FY18. Until now benign food prices have given some cushion to RBI; however, the upward swing in seasonal vegetable prices and government’s commitment on minimum support prices (MSP) for farmers may reverse the trend going forward.
The government’s efforts to control food inflation cannot be ignored. In the past, pro-active measures undertaken by it include reducing import duty on certain agriculture commodities like wheat and pulses, restricting exports of some commodities like sugar by imposing higher export duty, putting stock limits in respect of certain essential commodities like pulses, onion, edible oilseeds, and, not to forget, better food supply management.
The MSP increases in the last few years have also been lower than the double-digit growth seen between 2009 and 2013. Apart from the measures taken by the government, the fall in food prices has also been supported by abundant supply for most agriculture commodities specifically pulses. In fact, the supply glut for commodities like wheat and soyabean is a global phenomenon.
However, persistent fall in food prices has also raised concerns for the government. At a time when there is farm distress, the government’s failure to its promise of doubling farmer’s income is hitting it hard. The decline in food prices has been broad-based. Pulses prices de-grew by 21% in FY18. Categories like cereals, meat, milk, oil, sugar, spices and vegetables have all witnessed disinflation since FY16.
With headline inflation remaining higher than food inflation, the terms of trade for farm sector (ratio of price that farmers receive for their produce to the price they pay for inputs) has worsened. As per a NITI Aayog report, while farmer’s income in nominal terms has grown by 7% annually between FY15-16, adjusted for inflation, the real income growth is only in the range of 1-2%
The farmers are bearing the brunt of the disinflation in food prices, resulting in increased pressure on the government to take some corrective steps. The government has, in the recent past, reversed some of its policies to contain the decline in food prices. For example, the export ban on pulses has been removed, there is increased import tariff on wheat and export duty on sugar has been scrapped.
The government has also announced higher MSP increases for the last Kharif season and committed to an MSP increase, covering 1.5 times the cost of production going forward. Due to an abundant supply in the market, these measures haven’t helped much. However, the policymakers now seem to be committed towards addressing the issue.
With increasing pressure to alleviate farmer distress, a fine balancing act is needed on the policy front of keeping inflation in the target range, without hampering farmers interest. In addition, if the agri commodity supply tightens due to some unforeseen weather condition, it will get even tougher for them.
Even though RBI struck a dovish tone in its April MPC revising its inflation projection for FY19 downwards, the minutes of the meeting were more hawkish, indicating its intention to move from neutral towards “withdrawal of accommodation” in the next MPC meeting. Low base effect, weakening rupee, higher oil prices and rising core inflation may harden its stance for a hike in interest rates in June or August review. In a situation when the cushion of low oil prices and stronger rupee has dissipated and government is committed to increase MSP for farmers in a pre-election year, the road ahead for RBI is going to get even tougher.
Authors are Mumbai-based corporate economists