current inflation in indian economy

Yogesh PatilIIPM 12-14

Index

INTRODUCTION

OBJECTIVES

OVERVIEW OF THE INDIAN ECONOMY

METHODS FOR CONTROLLING INFLATION

RISING INFLATION IN INDIA

GLOBAL INFLATION AND INDIA

CONCLUSION

BIBLIOGRAPHY

LIST OF TABLES


INDIA WHOLESALE PRISE INFLATION

INDIA GDP GROWTH

INDIA FOREIGN EXCHANGE RESERVES

USD RUPEE DAILY RATES

MOVEMENT IN INTERNATIONAL OIL PRICES

INDICES OF WORLD COMMODITY PRICES


OBJECTIVES OF STUDY

1. TO UNDERSTAND THE INDIAN ECONOMY

2. TO STUDY THE EFFECT OF RISING INFLATION IN INDIA

3. TO ANALYSE THE RESPONSE OF THE INDIAN GOVERNMENT REGARDING RISING INFLATIONARY RATE

INTRODUCTION

In our economy, most prices tend to rise over time. This increase in the overall level of prices is called inflation. The economists all over the world measures


the inflation rate as the percentage change in the consumer price index(CPI),the GDP deflator, or some other index of the overall price level. These price indexes show that, over the past 70 years, prices have risen on average about 4 percent per year. Accumulated over so many years, a 4 percent annual inflation rate leads to a 16-fold increase in the price level.

Although inflation has been the norm in more recent history, there has been substantial variation in the rate at which prices rise. During the 1990’s prices rose at an average rate of about 2 percent per year. By contrast, in the 1970’s, prices rose by 7 percent per year, which meant a doubling of the price level over the decade. The public often view such high rates of inflation as a major economic problem.

International data shows even broader range of inflation experiences.

Prices rise when the government prints too much money. This insight has a long and venerable trend among the economists. The quantity theory explains all moderate inflations. This theory was been discussed by the famous 18th century philosopher and economist David Hume and was later advocated by the prominent economist Milton Friedman.

After developing a theory of inflation we turn to a related question: WHY IS INFLATION A PROBLEM? At first glance the answer to this question may seem obvious: INFLATION IS A PROBLEM BECAUSE PEOPLEDON’T LIKE IT.

But what exactly, are the costs that inflation imposes on a society? The answer is surprising.........

IDENTIFYING THE VARIOUS COSTS OF INFLATION IS NOT AS STRIGHTFORWARD AS IT FIRST APPEARS. As a result, although all economists decry hyperinflation, some economists argue that the cost of moderate inflation are not nearly as large as the general public believes.


AN OVERVIEW OF THE INDIAN ECONOMY


The Tenth Five Year Plan (2002-07) has been prepared against a backdrop of high expectationsarising from some aspects of the recent performance. GDP growth in the post reforms period has improvedfrom an average of about 5.7 per cent in the 1980s to an average of about 6.1 per cent in the Eighth and NinthPlan periods, making India one of the ten fastest growing countries in the world. The Tenth Five Year Plan aimsat achieving an average growth rate of the Gross Domestic Product (GDP) of 8 per cent per annum over theperiod 2002 to 2007. It also seeks to create the conditions for a further acceleration in the growth rate over theEleventh Plan period (2007-12) in order to achieve a doubling of per capita income of the country over thenext ten years.The strategy for the Tenth Plan include redefining the role of Government, a

Statewise breakdown of growth and social development targets, extending

reforms into the agricultural sector, emphasis on employment-generating sectors

and poverty alleviation. Simultaneously, the Tenth Plan has specific focus on

key indicators of human development. Accordingly, the Plan seeks to establish,

in addition to the target rate


of real growth of 8 per cent, “specific and monitorable targets” measuring

human well being, in terms of :

(1)Reduction of poverty ratio by 5 per centage points by 2007, (2) Providing

gainful and high-quality employment

atleast in addition to the labour force over the Tenth Plan period,

(3) All children to complete 5 years of

schooling by 2007,

(4) Reduction in gender gaps in literacy and wage rates by at least 50 per cent

by 2007,

(5) Reduction in the decadal rate of population growth between 2001 and 2011

to 16.2 per cent,

(6)Increase in Literacy rates to 75 per cent within the plan period,

(7) Reduction of Infant Mortality Rate (IMR)

to 45 per 1000 live births by 2007,

( 8) Reduction of Maternal Mortality Rate (MMR) to 2 per 1000 live births by

2007,

(9) Increase in forest and tree cover to 25 per cent by 2007, (10) All villages to

have sustained access to potable drinking water within the Plan period and

registered

(11) Cleaning of major polluted rivers by 2007.

HOW INDIA MEASURES INFLATION


India uses the Wholesale Price Index (WPI) to calculate and then decide the rate of inflation in the economy. Most developed countries use the Consumer Price Index (CPI) to calculate inflation.

WPI was first published in 1902, and was one of the major economic indicators available to policy makers until it was replaced by the Consumer Price Index in most developed countries by in the 1970s.

WPI is the index that is used to measure the change in the average price level of goods traded in wholesale market. In India, price data for 435 commodities is tracked through WPI which is an indicator of movement in prices of commodities in all trades and transactions. It is also the price index which is available on a weekly basis with the shortest possible time lag -- two weeks. The Indian government has taken WPI as an indicator of the rate of inflation in the economy.

CPI is a statistical time-series measure of a weighted average of prices of a specified set of goods and services purchased by consumers. It is a price index that tracks the prices of a specified basket of consumer goods and services, providing a measure of inflation.

CPI is a fixed quantity price index and considered by some a cost of living index. Under CPI, an index is scaled so that it is equal to 100 at a chosen point in time, so that all other values of the index are a percentage relative to this one.

Some economists argue that it is high time that India abandoned WPI and adopted CPI to calculate inflation.

India is the only major country that uses a wholesale index to measure inflation. Most countries use the CPI as a measure of inflation, as this actually measures the increase in price that a consumer will ultimately have to pay for.

CPI is the official barometer of inflation in many countries such as the United States, the United Kingdom, Japan, France, Canada, Singapore and China. The governments there review the commodity basket of CPI every 4-5 years to factor in changes in consumption pattern.

WPI does not properly measure the exact price rise an end-consumer will experience because, as the same suggests, it is at the wholesale level.

The main problem with WPI calculation is that more than 100 out of the 435 commodities included in the Index have ceased to be important from the consumption point of view. Take, for example, a commodity like coarse grains that go into making of livestock feed. This commodity is insignificant, but continues to be considered while measuring inflation.


India constituted the last WPI series of commodities in 1993-94; but has not updated it till now that economists argue the Index has lost relevance and can not be the barometer to calculate inflation.

The WPI is published on a weekly basis and the CPI, on a monthly basis. And in India, inflation is calculated on a weekly basis and announced on every Friday.

METHODS FOR CONTROLLING INFLATION

1. Monetary policy

Today the primary tool for controlling inflation is monetary policy. Most central banks are tasked with keeping inflation at a low level, normally to a target rate around 2% to 3% per annum, and within a targeted low inflation range, somewhere from about 2% to 6% per annum.

There are a number of methods that have been suggested to control inflation. Central banks can affect inflation to a significant extent through setting interest rates and through other operations. High interest rates and slow growth of the money supply are the traditional ways through which central banks fight or prevent inflation, though they have different approaches. For instance, some follow a symmetrical inflation target while others only control inflation when it rises above a target, whether express or implied.

Monetarists emphasize increasing interest rates (slowing the rise in the money supply, monetary policy) to fight inflation. Keynesians emphasize reducing demand in general, often through fiscal policy, using increased taxation or reduced government spending to reduce demand as well as by using monetary policy. Supply-side economists advocate fighting inflation by fixing the exchange rate between the currency and some reference currency such as gold. This would be a return to the gold standard. All of these policies are achieved in practice through a process of open market operations.

2. Fixed exchange rates


Under a fixed exchange rate currency regime, a country's currency is tied in value to another single currency or to a basket of other currencies (or sometimes to another measure of value, such as gold). A fixed exchange rate is usually used to stabilize the value of a currency, vis-a-vis the currency it is pegged to. It can also used as a means to control inflation. However, as the reference value rises and falls, so does the currency pegged to it. This essentially means that the inflation rate in the country is determined by the inflation rate of the country the currency is pegged to. In addition, a fixed exchange rate prevents a government from using domestic monetary policy in order to achieve macroeconomic stability.

3. Gold standard

The gold standard is a monetary system in which a region's common media of exchange are paper notes that are normally freely convertible into pre-set, fixed quantities of gold. The standard specifies how the gold backing would be implemented, including the amount of specie per currency unit. The currency itself has no innate value, but is accepted by traders because it can be redeemed for the equivalent specie. A U.S. silver certificate, for example, could be redeemed for an actual piece of silver.

Gold was a common form of representative money due to its rarity, durability, divisibility, fungibility, and ease of identification. Representative money and the gold standard were used to protect citizens from hyperinflation and other abuses of monetary policy, as were seen in some countries during the Great Depression. However, they were not without their problems and critics, and so were partially abandoned via the international adoption of the Bretton Woods System. That system eventually collapsed in 1971, at which time all nations had switched to full fiat money. Austrian economists strongly favor a return to a 100 percent gold standard.

http://en.wikipedia.org/wiki/Image:Assorted_United_States_coins.jpg


Under a gold standard, the long term rate of inflation (or deflation) would be determined by the growth rate of the supply of gold relative to total output. Critics argue that this will cause arbitrary fluctuations in the inflation rate, and that monetary policy would essentially be determined by gold mining, which some believe contributed to the Great Depression.

4. Wage and price controls

Another method attempted in the past have been wage and price controls ("incomes policies"). Wage and price controls have been successful in wartime environments in combination with rationing. However, their use in other contexts is far more mixed. Notable failures of their use include the 1972 imposition of wage and price controls by Richard Nixon. More successful examples include the Prices and Incomes Accord in Australia and the Wassenaar Agreement in the Netherlands.

In general wage and price controls are regarded as a temporary and exceptional measure, only effective when coupled with policies designed to reduce the underlying causes of inflation during the wage and price control regime, for example, winning the war being fought. They often have perverse effects, due to the distorted signals they send to the market. Artificially low prices often cause rationing and shortages and discourage future investment, resulting in yet further shortages. The usual economic analysis is that any product or service that is under-priced is overconsumed. For example, if the official price of bread is too low, there will be too little bread at official prices, and too little investment in bread making by the market to satisfy future needs, thereby exacerbating the problem in the long term.

Temporary controls may complement a recession as a way to fight inflation: the controls make the recession more efficient as a way to fight inflation (reducing the need to increase unemployment), while the recession prevents the kinds of distortions that controls cause when demand is high. However, in general the advice of economists is not to impose price controls but to liberalize prices by assuming that the economy will adjust and abandon unprofitable economic activity. The lower activity will place fewer demands on whatever commodities were driving inflation, whether labor or resources, and inflation will fall with total economic output. This often produces a severe recession, as productive capacity is reallocated and is thus often very unpopular with the people whose livelihoods are destroyed.


RISING INFLATION IN INDIA

Inflation growth rate

Inflation growth rate in india for the year 2008:

INFLATION RATES (%)

SEP AUG JUL JUN MAY APR MAR FEB JAN

Czech Republic 2.8 2.4 2.3 2.5 2.4 2.5 1.9 1.5 1.3 Lithuania 7.1 5.5 4.1 4.9 4.9 4.8 4.6 4.3 4.0 Latvia 11.4 10.1 9.5 8.8 8.2 8.9 8.5 7.3 7.1Ukraine 14.4 14.3 13.5 12.9 10.7 10.5 10.1 9.5 10.8Thailand 2.1 1.1 1.2 1.9 1.9 1.8 2.0 2.3 3.1South Korea 2.3 2.0 2.5 2.6 2.4 2.4 2.2 2.2 1.7India n.a. 7.3 6.4 5.7 6.6 6.8 6.7 7.6 6.7China n.a 6.7 4.7 4.5 3.4 3.0 3.3 2.8 2.2Argentina 8.6 8.7 8.6 8.8 8.8 8.9 9.1 9.6 9.7Brazil n.a 4.8 4.2 4.0 3.6 3.4 3.3 3.1 2.9Chile 5.9 4.7 3.8 3.2 2.9 2.5 2.6 2.7 2.8Venezuela 15.3 15.9 17.2 19.4 19.5 19.4 18.5 20.4 18.4Turkey 7.1 7.4 6.9 8.6 9.2 10.7 10.9 10.2 9.9South Africa n.a 6.7 7.0 7.0 6.9 7.0 6.1 5.8 6.0Egypt n.a 8.5 8.0 8.5 10.0 11.7 12.8 12.6 12.4Jordan n.a 3.9 3.7 3.9 3.6 5.6 6.7 8.4 7.6

N.A. = NOT AVAILABLE

It is clearly observable that the increase rate of inflation in INDIA is much higher than other countries.


What is obvious from the above chart is that the steady uptick inflation since last autumn. Rising energy and food costs are likely to continue, and These will only add to the problems facing the administration. Crude oil jumped to an all-time high of $111 last week, putting pressure on India's government to continue increasing prices following February's initial increase in the cost of retail gasoline and diesel. Central bank Governor Yaga Venugopal Reddy last week said rising food and energy prices pose "acute policy dilemmas". Reddy also indicated that India's benchmark interest rates, currently at a six-year high, won’t be coming down in a hurry, due to the current inflation and the difficulties arising from uncertainty in the global financial markets.

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"The large segments of the poor tend to reap the benefits of high growth with a time lag while the rise in prices affects them instantly.....Considerable weight is currently accorded by the Reserve Bank of India to price and financial stability while recognizing its twin objectives of growth and stability."

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Bank lending continues to rise, and was up 21.88% year-on-year in the two weeks to February 29, 2008, as compared with the 21.84% growth rate logged in the fortnight ended February 15, according to Reserve Bank of India data released last Friday. Outstanding loans rose by Rs 41,481 crore to Rs 22.51 lakh crore in the two weeks to February 29. Non-food credit rose by Rs 39,988 crore to Rs 22.07 lakh crore over the two weeks, while food credit rose by Rs 1,493 crore to Rs 44,311 crore in the same period. Deposits were up 23.7% in the two weeks to February 29 from a year earlier. Banks' deposits rose by Rs 43,539 lakh crore to Rs 30.81 lakh crore.

At the same time the country's foreign-exchange reserves continued their upward march and increased by $2.2 billion in the week ended March 7 to $303.5 billion, according to the RBI.

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The rupee really started to drop significantly in February following the withdrawal by the Indian unit of Emaar Properties of its $1.8 billion initial public offer (IPO) due to the volatile situation in the Indian stock market. Foreign investment in IPOs had constituted a major support for the rupee in January, ever since Reliance Power raised $3 billion within a minute of opening for sale. India's trade deficit, which has suffered on the back of the rise in the rupee - and which swelled to $9.4 billion in January, more than three times larger than in the same month a year earlier - clearly hasn't help underpin expectations that the Indian monetary authorities will feel comfortable accepting the continuing rise in the currency.

Inflation too mild to account for stagnant agriculture

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A study of agricultural growth in reform years (“Agricultural Growth in India since 1991”) by the Development Research Group of the RBI has thrown up some interesting findings. It argues, “the recent history of Indian agriculture reveals no uni-directional link between growth and relative prices.”

The study concludes that “the evidence of price shift is too mild to account for the observed slowing(in agricultural growth)”.

Instead, the study points out a host of structural factors including fragmentation of land holdings, stagnant public investment and slowing of irrigation expansion since 1991 that have in general led to poorer production conditions in Indian agriculture. The study estimates growth rate for all crops in the period 1991-92 to 2006-07 at 1.3% and yield improvement at 1.2%, far below the compounded annual growth rates in the preceding years. Since the bulk of India’s population is engaged in agriculture, this slowing down of growth has implications for poverty alleviation.

Minimum Support Price for Farmers

ANOTHER problem which has affected agriculture is the Minimum Support Price (MSP) for farmers. Since the cost of production in agriculture is increasing, there is a need to increase the MSP for farmers. Till 2007-08 it was Rs 850 per quintal in case of wheat and Rs 745 per quintal for rice. It was alleged that the government is paying more for imports in the international market, but is not paying a higher MSP to its own farmers so that it can have more foodgrains for its buffer stocks. Only recently, the government has revised the MSP for wheat to Rs 1000 per quintal, but has not done so for rice so far.

Inflation in Fuels, Cement and Steel


BESIDES foodgrains, other commodities which are exercising an upward pressure on the WPI are fuels, cement and steel. The price of petrol in the international market has reached an unprecedented level of $ 114 per barrel. Via the rise in transport cost, it pushes up the price level. But this is an exogenous factor on which the government has no control. Recently, there has been a diversion of certain foodgrains towards the manufacture of bio-fuels. This has resulted in pushing up the international prices of foodgrains by over 80 per cent, thus raising the cost of imported food grains. The diversion of foodgrains to bio-fuels is aggravating the supply constraint in the domestic economy as well. To mitigate the situation, the government should impose severe restrictions on the use of foodgrains for bio-fuels as a temporary measure till such period that foodgrains output growth is accelerated by the measures initiated to reach the target of agricultural growth four per cent per annum.

Grilled by the Opposition, Finance Minister P. Chidambaram stated in the Lok Sabha on April 16, 2008: I have no hesitation in repeating that cement manufacturers are behaving like a cartel. There are signs that even steel manufactures are behaving like a cartel… If they do not understand the gravity of the situation and behave responsibly, the government will not hesitate to take tough administrative measures.

There appears to be divergence of views within the government. As against the Finance Minister’s strong view warning of tough measures against cartel-like behaviour by the steel and cement manufacturers, the Minister of State for Steel, Jitin Prasad, in a written reply to a query in the Lok Sabha stated:

The steel prices are determined by market forces, such as demand and supply and international prices. However, no evidence on cartelisation by steel companies in determining steel prices has been brought to the notice of the Ministry of Steel.

GLOBAL INFLATION AND INDIA


Most analyses of accelerating inflation in India emphasise the role of “imported inflation” in driving Indian prices upwards. In this edition of Macro scan, C. P. Chandrasekhar and Jayati Gosh examine the trends in global markets that influence domestic price movements and their implications.

With the annual rate of inflation in India having touched 7 per cent on a point-to-point basis during the week-ending March 22, 2008, the search for policies to combat the price rise has begun. One factor seen as making that search difficult is the ostensible role of “imported inflation” in driving the rise in domestic prices.

There is an obvious reason why such an argument arises. Among the products primarily responsible for the current inflation are food products of different kinds, including cereals, intermediates like metals and the universal intermediate, oil.


Of these, the difficulties that high and rising levels of oil prices pose have been known for some time now. Price movements for the two varieties of crude that enter India’s import basket (Chart 1) show that since May 2003 international prices have, despite fluctuations, been on a continuous rise. In the event the prices per barrel of these varieties have moved from less than $25 in May 2003 to close to or well above $100 today.

Real price of oil

This has changed one feature of the oil price scenario that held during much of the last two decades. During those years, despite high nominal prices, the real price of oil (adjusted for increases in the general price level) was far lower than that which prevailed during the 1970s. As Chart 2 shows, when measured by the


price-deflated refiner acquisition cost of imported oil in the US, in the years since 1974 the real price of oil was higher than that in 2006 only during a brief period between 1980 and 1982. Since 2006, nominal oil prices having risen further at rates much higher than the average level of prices.

As a result, oil producers are regaining the real price benefits they garnered during the 1979-81 shock. According to one estimate, in terms of current prices, the late 1970s-early 1980s peak in oil prices works out to $100-110 a barrel. That is a figure that we are fast approaching.

While the disruption caused by the US occupation of Iraq, other geopolitical factors and the speculation that followed have played a role in the case of oil, what explains the recent increase in other global commodity prices, especially food articles and metals? Chart 3 (based on IMF data) shows that, except for agricultural raw materials whose prices have increased very little, all the other commodity groups have shown sharp rises in price.

The rise in price levels for metals was the earliest in the recent surge, with the weighted average of metals prices increasing sharply from the last quarter of 2005, and almost doubling in the two-year period to February 2008. Coal prices more than doubled last year, thereby showing a faster rise than even the oil price. Food prices, like agricultural raw materials, had shown only a modest increase until early 2007. But since then they have zoomed, such that the IMF data show more than 40 per cent increase in world food prices over 2007.

Food price index


The FAO food price index, which includes national prices as well as those in cross-border trade, suggests that the average index for 2007 was nearly 25 per cent above the average for 2006. Apart from sugar, nearly every other food crop has shown very significant increases in price in world trade over 2007, and the latest evidence suggests that this trend has continued and even accelerated in the first few months of 2008. The net result is that globally the prices of many basic commodities have been rising faster than they ever did during the last three decades.

It has been argued that these developments are largely demand driven, being the result of several years of rapid global growth and the voracious demand from some fast-growing countries such as China. Certainly there is some element of truth in this. And to the extent that this is true, it implies that the world economy is heading back to the late-1960s and early-1970s scenario wherein rapid and prolonged growth came up against an inflationary barrier. Capitalism’s success over the last two decades was its ability to prevent such an outcome, political economy processes that restrained the wage and income demands of workers and primary producers. But clearly there are limits to such a process, and these limits are now being reached.

If this were the only cause of the recent commodity price inflation, it would not necessarily be of such concern to policymakers, because it could then be expected that a slowing down of overall growth would simultaneously reduce inflation. It would also reflect some recovery of the drastically reduced bargaining power of workers and primary producers. But there are other, more worrying tendencies in operation, that suggest that the current global inflationary process has other factors pushing it which will not be so easily controlled.

Forces behind the rise

To understand this, it is necessary to examine the forces behind the price rises for different commodities. In the case of food, there are more than just demand forces at work, although it is certainly true that rising incomes in Asia and other parts of the developing world have led to increased demand for food. Five major aspects affecting supply conditions have been crucial in changing global market conditions for food crops.

First, there is the impact of high oil prices, which affect agricultural costs directly because of the significance of energy as an input in the cultivation process itself (through fertiliser and irrigation costs) as well as in transporting food. Across the world, governments have reduced protection and subsidies on agriculture, which means that high costs of energy directly translate into higher costs of cultivation, and therefore higher prices of output.


Policy neglect

Third, the impact of policy neglect of agriculture over the past two decades is finally being felt. The prolonged agrarian crisis in many parts of the developing world; the shifts in acreage from food crops to cash crops relying on purchased inputs; the excessive use of groundwater and inadequate attention to preserving or regenerating land and soil quality; the lack of attention to relevant agricultural research and extension; the overuse of chemical inputs that have long-run implications for both safety and productivity; the ecological implications of both pollution and climate change, including desertification and loss of cultivable land: all these are issues that have been highlighted by analysts but largely ignored by policymakers in most countries.

Reversing these processes is possible but will take time and substantial public investment, so until then global supply conditions will remain problematic.

Fourth, there is the impact of changes in market structure, which allow for greater international speculation in commodities. It is often assumed that rising food prices automatically benefit farmers, but this is far from the case, especially as the global food trade has become more concentrated and vertically integrated.

A small number of agribusiness companies worldwide increasingly control all aspects of cultivation and distribution, from supplying inputs to farmers to buying crops and even in some cases to retail food distribution. This means that marketing margins are large and increasing, so that direct producers do not get the benefits of increases expect with a time lag and even then not to the full extent. This concentration also enables greater speculation in food, with more centralised storage.

Financial speculators

Finally, primary commodity markets are also attracting financial speculators. As the global financial system remains fragile with the continuing implosion of the US housing finance market, commodity speculation is increasingly emerging as an important alternative investment market. Such speculation by large banks and financial companies is in both agricultural and non-agricultural commodities, and explains at least partly why the very recent period has seen such sharp hikes in price.

Commodity speculation has also affected the minerals and metals sector. For these commodities, it is evident that recent price increases have been largely the result of increased demand, especially from China and other rapidly growing developing countries, but also from the US and European Union.


A positive fallout of the recent growth in demand and diversification of sources of demand is that it has allowed primary metals producing countries, especially in Africa, to benefit from competition to extract better prices and conditions for their mined products. But there is also the unfortunate reality that higher mineral prices have rarely if ever translated into better incomes and living conditions of the local people, even if they may benefit the aggregate economy of the country concerned.

At any rate, metal prices are high and likely to remain so because of the growing imbalance between world supply and demand. A reduction in global output growth rates would definitely have some dampening effect on prices from their current highs, but the basic imbalance is likely to continue for some time. This is also because there has been a neglect of investment in this sector as well, so that building up new capacity will take time given the long gestation period involved in investments for metal production.

Implications for India

So the medium-term outlook for global commodity prices, while uncertain, is that they are likely to remain high even if the world economy slows down in terms of output growth. What does this mean for India? Until the 1990s, both producers and consumers in India were relatively sheltered from the impact of such global tendencies because of a complex system of trade restrictions, public procurement and distribution and policy emphasis on at least food self-sufficiency.

The liberalising policies that began in the early 1990s have rendered all of that history, since one explicit aim of the reform strategy was to bring Indian prices closer in line to world prices. Countries like India seeking to manage this effect of global speculation on the prices of a universal intermediate like oil have to decide how important it is to insulate the domestic economy and the domestic consumer from its effect.

Given the huge revenues being derived from duties on oil products, one way this can be done is to forego duty while holding oil prices. This would require compensating for revenue losses with taxes in other areas which a growing economy can contemplate. But the Government appears unwilling to take this route, increasing pressure to hike oil prices further and aggravate an inflationary tendency that is already proving to be economically and politically damaging.


Ineffective strategy

This reticence till recently to proactively insulate the domestic economy has meant, that both producers and consumers are now more or less directly affected adversely by global trends.

The Government’s response to the domestic price rise, which is already creating panic in official corridors in an election year, has been to reduce or eliminate import duties on several food items such as edible oils, so as to allow imports to bring the price down.

But that is a short-sighted and probably ineffective strategy. It provides direct competition to Indian farmers producing oilseeds, even as they suffer rapidly rising costs. It sends confused signals not only to farmers for the next sowing season, but also to consumers, and leaves the field open for domestic speculators as well because the imports are not under public supervision but left to private traders.

Most of all, given the tendency of international commodity prices noted here, it will not solve the basic problem of rising inflation in such commodities. Instead, it will make the Indian economy even more prone to the volatility and inflationary pressure of world markets. In fact, the increases in prices in India have not been as sharp for some commodities largely because of the vestiges of the intervention era.

Thus, prices of some commodities, like rice for example, have gone up less than world prices only because exports have been prohibited. This does suggest that the Indian economy cannot hope to remain insulated from these global trends without much more proactive policies that rely substantially on government intervention in several areas.

In the case of food, this essentially requires a more determined effort to increase the viability of food cultivation, to improve the productivity of agriculture through public measures, and to expand and strengthen the public system of procurement and distribution.

For other commodities too, it is now evident that a laissez faire system is simply not good enough and public intervention and regulation of markets is essential.


Inflation: through RBI lens

INDIA's central banking authorities Reserve Bank of India maintains that zooming inflation that the country witnessed in the first quarter of the current fiscal 2008-09 and beyond - from 7.7 per cent at end-March 2008 to 11.9 per cent by July 12, 2008- cane be attributed to the impact of some pass-through of higher international crude oil prices to domestic prices as well as continued increase in the prices of iron and steel, basic heavy inorganic chemicals, machinery and machinery tools, oilseeds/edible oils/oil cakes and raw cotton on account of strong demand, international commodity price pressures and lower domestic 2007-08 rabi production of oilseeds. The seasonal hardening of vegetables prices as well as increase in the prices of textiles have also contributed to the rising inflation during 2008-09 so far. Inflation in India is estimated on the basis of fluctuations in the wholesale price index (WPI).

Macroeconomic and Monetary Developments: RBI First Quarter Review 2008-09 *

Headline inflation firmed up further in major economies, during the first quarter of 2008-09, reflecting the combined impact of higher food and fuel prices as well as strong demand conditions, especially in emerging markets. Notwithstanding inflation remaining above the targets/comfort zones, the monetary policy responses during the quarter were mixed in view of growth implications of the persistence of financial market turmoil following the US sub-prime crisis. While many central banks in developed countries such as the US, the UK and Canada, which had reduced policy rate up to April 2008, have paused subsequently, many central banks in emerging economies continued with pre-emptive monetary tightening to contain inflation and inflationary expectations on account of excess supply of global liquidity. Apart from independent actions, the co-ordinated move by major advanced country central banks in terms of injection of short-term liquidity aimed at easing strains on the money markets continued during the quarter.

Mirroring inflation trends in many advanced as well as emerging economies, various measures of inflation in India have also risen significantly since the beginning of this calender year. In India, inflation based on the wholesale price index (WPI) increased from 7.7 per cent at end-March 2008 to 11.9 per cent by July 12, 2008, reflecting the impact of some pass-through of higher international crude oil prices to domestic prices as well as continued increase in the prices of iron and steel, basic heavy inorganic chemicals, machinery


and machinery tools, oilseeds/edible oils/oil cakes and raw cotton on account of strong demand, international commodity price pressures and lower domestic 2007-08 rabi production of oilseeds. The seasonal hardening of vegetables prices as well as increase in the prices of textiles have also contributed to inflation during 2008-09 so far. Consumer price inflation also edged up generally during the first quarter of 2008-09, reflecting increase in the prices of food items and services, represented by the ‘miscellaneous’ group. Various measures of consumer price inflation were placed in the range of 6.8-8.8 per cent during May/June 2008 as compared with 6.0-7.9 per cent in March 2008 and 5.7-7.8 per cent in June 2007.

Primary articles prices, y-o-y, increased by 10.1 per cent on July 12, 2008 on top of 11.1 per cent a year ago (it was 9.7 per cent at end-March 2008), reflecting increase in prices of food articles, especially rice, wheat, fruits and milk, and non-food articles such as oilseeds and raw cotton.

Fuel group inflation increased to 16.9 per cent on July 12, 2008 from 6.8 per cent at end-March 2008 (and a decline of 1.4 per cent a year ago), mainly reflecting the effect of some hikes in the prices of petrol, diesel and LPG in June 2008 as well as continued increase (15-51 per cent) in the prices of freely priced petroleum products such as naphtha, furnace oil, aviation turbine fuel, bitumen and lubricants over end-March 2008.

Manufactured products inflation, year-on-year, rose further to 10.7 per cent on July 12, 2008 from 7.3 per cent at end-March 2008 (and 4.8 per cent a year ago), reflecting increase in the prices of edible oils, oil cakes, textiles, chemicals, basic metals, alloys and products, and machinery and machine tools. Prices of sugar and grain mill products, however, eased somewhat from end-March 2008.

Consumer price inflation increased further during the first quarter of 2008-09 mainly due to increase in food prices and services (represented by the ‘miscellaneous’ group) prices. Various measures of consumer price inflation were placed in the range of 6.8-8.8 per cent during May/June 2008 as compared with 6.0-7.9 per cent in March 2008 and 5.7-7.8 per cent in June 2007.

Recent Measures by the Government to Control Inflation in India


In order to contain inflationary pressures, the monetary measures undertaken by the Reserve Bank were supplemented by a number of fiscal and supply augmenting measures undertaken by the Government. These include:

(i) Measures relating to Imports

Pulses: Customs duty on import of pulses was reduced to zero on June 8, 2006 and the period of validity of import of pulses at zero duty, which was initially available up to March 2007, was first extended to August 2007 and further to March 2009.

Wheat: Import of wheat at zero duty, which was available up to end-December 2006, was extended further to end-December 2007.

Edible oils: Customs duty on palm oils was reduced by 10 percentage points across the board in April 2007 and import duty on various edible oils was reduced in a range of 5-10 percentage points in July 2007. The 4 per cent additional countervailing duty on all edible oils was also withdrawn. Customs duties on crude and refined edible oil were reduced from a range of 40-75 per cent to 20.0-27.5 per cent in March 2008. Import of crude form of edible oil at zero duty and refined form of edible oil at a duty of 7.5 per cent was allowed.

Rice: In March 2008, the customs duty on semi-milled or wholly-milled rice was reduced from 70 per cent to zero per cent up to March 2009.

Maize: Customs duty on maize imported under a Tariff Rate Quota of five lakh metric tonnes was also decreased from 15 per cent to Nil in April 2008.

Milk: In order to ensure adequate availability of milk in lean summer months, basic customs duty on skimmed milk powder was proposed to be reduced from 15 per cent to 5 per cent for a Tariff Rate Quota of 10,000 metric tonnes per annum in April 2008. Similarly, on butter oil, which is used for reconstituting liquid milk, customs duty was reduced from 40 per cent to 30 per cent.

Cement: On April 3, 2007, import of portland cement other than white cement was exempted from countervailing duty (CVD) and special additional customs duty; it was earlier exempted from basic customs duty in January 2007. Exports of cement was prohibited with effect from April 11, 2008.

Iron & Steel: In order to augment the domestic availability of steel products as well as to soften prices, the following measures were announced:

a) reduction in the basic customs duty on pig iron and mild steel products


viz., sponge iron, granules and powders; ingots, billets, semi-finished products, hot rolled coils, cold rolled coils, coated coils/sheets, bars and rods, angle shapes and sections and wires from 5 per cent to Nil;

b) Full exemption of the import of TMT bars and structurals from CVD, which is currently at 14 per cent;

c) reduction in the basic customs duty on three critical inputs for manufacture of steel, i.e. metallurgical coke, ferro alloys and zinc from 5 per cent to Nil.

Cotton: The 10 per cent customs duty on cotton imports along with 4 per cent special additional duty was abolished with effect from July 8, 2008.

Crude Oil & Petroleum products: Customs duty on crude oil was reduced from 5 per cent to ‘nil’ as well as on diesel and petrol from 7.5 per cent to 2.5 per cent each, and on other petroleum products from 10.0 per cent to 5.0 per cent. Excise duty on petrol and diesel was reduced by Re. 1 per litre.

(ii) Measures relating to Exports

Pulses: A ban was imposed on export of pulses with effect from June 22, 2006 and the period of validity of prohibition on exports of pulses, which was initially applied up to end-March 2007, was further extended first up to end-March 2008 and then for one more year beginning April 1, 2008.

Onion: The minimum export price (MEP) was increased by the National Agricultural Cooperative Marketing Federation of India Ltd. (NAFED) by US $ 100 per tonne for all destinations from August 20, 2007 and by another US $ 50 per tonne with effect from October 2007 for restricting exports and augmenting availability in the domestic market.

Edible Oils: The export of all edible oils was prohibited with immediate effect from April 1, 2008.

Rice: On April 1, 2008, export of non-basmati rice was banned and the minimum export price (MEP) was raised to US $ 1,200 per tonne in respect of basmati rice. On April 29, 2008, an export duty of Rs.8,000 per tonne was imposed on basmati rice along with a commensurate reduction in its minimum export price and thereby re-fixed the MEP at US$ 1,000 per tonne.

Iron & Steel: On April 29, 2008, export duty was imposed on steel items at the following three different rates:

15 per cent on specified primary forms and semi-finished products, and hot rolled coils/sheet,


10 per cent on specified rolled products including cold-rolled coils/sheets and pipes and tubes,

5 per cent on galvanized steel in coil/sheet form.

For this purpose, a uniform statutory rate of 20 per cent has been incorporated in the Export Schedule. These measures are expected to disincentives the export of steel and augment domestic supply.

Cotton: One per cent drawback benefits (refund of local taxes) on exports of raw cotton were withdrawn with effect from July 8, 2008.

(iii) Other Measures

a) The minimum support price (MSP) for paddy was raised by Rs. 125 per tonne for 2007-08 and for wheat by Rs. 150 for 2007-08 and further by Rs. 150 for 2008-09.

b) Issuance of oil bonds to State-run oil marketing companies.

* Following are extracts of the The Reserve Bank of India document

was released on July 28, 2008

Is India, the world's second most populous nation, facing a food crisis?


This question is vexing policy makers and analysts alike even as creeping inflation - around 7% now - is sending jitters through the Congress party-led ruling coalition. To be sure, India has not yet experienced riots over rising food prices that have hit other countries like Zimbabwe or Argentina. But what is worrying everybody is that the current rise in inflation is driven by high food prices. In the capital, Delhi, milk costs 11% more than last year. Edible oil prices have climbed by a whopping 40% over the same period. More crucially, rice prices have risen by 20% and prices of certain lentils by 18%. Rice and lentils comprise the staple diet for many Indians.

Tax on the poor

Inflation, economists say, is akin to a tax on the poor since food accounts for a relatively high proportion of their expenses. All of which is bad news for ruling politicians because the poor in India vote in much larger numbers than the affluent. Roughly one out of four Indians lives on less than $1 a day and three out of four earn $2 or less. The rise in food prices, the government says, is an international phenomenon. But this argument is unlikely to cut much ice with the people. At the crux of the crisis is the tardy pace at which farm output has been growing in recent years. The Indian economy has been growing rapidly at an average of 8.5% over the last five years.

Food prices have risen sharply in the past year


This growth has been mainly confined to manufacturing industry and the burgeoning services sector. Agriculture, on the other hand, has grown by barely 2.5% over the last five years and the trend rate of growth is even lower if the past decade and a half is considered. Consequently, per capita output of cereals (wheat and rice) at present is more or less at the level that prevailed in the 1970s. The problem acquires a serious dimension since farming provides livelihood to around 60% of India's 1.1 billion people even though farm produce comprises only 18% of the country's current gross domestic product (GDP). On the other hand, the services sector - that includes the fast-growing computer software and business process outsourcing industries - constitutes over 55% of GDP with the remainder being taken up by industry. The crisis in farms is exemplified by the state of the country's cereal stocks.

Vulnerable farmers


Six years ago, the stocks were at record levels. Nobel laureate economist Amartya Sen had said if all the bags of wheat and rice with the state-owned Food Corporation of India were placed end to end, they would go all the way to the moon and back. Stocks have come down over the past three years because of low production and exports. The problem has been compounded by the fact that whenever India has imported wheat in recent months, world prices of wheat There is also considerable resentment over the fact that the price of wheat that the government imports is often twice as high as the minimum price the government pay its own farmers for domestically grown wheat. Indian farmers are particularly vulnerable since 60% per cent of the country's total cropped area is not irrigated. They are also dependent on the four-month-long monsoon during which period 80% of the year's total rainfall takes place. The crisis in agriculture has been manifest in the growing incidence of farmers taking their own lives. At least 10,000 farmers have committed suicide each year over the last decade because of their inability of repay loans taken at usurious rates of interest from local moneylenders.


Populist moves There has never been an acute shortage of food in India, not even during the infamous famine in Bengal in 1943 in which more than 1.5 million people are estimated to have died of starvation. The problem then - and now - is entitlement or access to food at affordable prices. Given the low purchasing power of India's poor, even a small increase in food prices contributes to a sharp fall in real incomes. The current crisis in Indian agriculture is a consequence of many factors - low rise in farm productivity, unremunerative prices for cultivators, poor food storage facilities resulting in high levels of wastage. Fragmentation of land holdings and a fall in public investments in rural areas, especially in irrigation facilities, are also to blame. The government has announced a $15bn waiver of farmer loans and extended a jobs scheme - ensuring 100 days of work in a year entailing manual labour to every family demanding such work at the official minimum wages giving its ignored farms the importance they deserve. But that alone may not help, as the study notes low correlation between expansion in area irrigated and expenditure. This suggests the need for better governance to improve the usage of funds allocated to the sector. The study flags the shrinking public support for expanding the knowledge base for agriculture. From a high of 0.54% of total revenue spending in 1990-91, the public spending on research and extension has fallen to 0.45% by 2005-06. However, this can be addressed through a greater involvement of the private sector. In the case of contract farming, the private sector purchasers usually help make available to farmers the best practices and domain knowledge. The study also cites credit issues with farming but that has been a concern for a while. Clearly, boosting agricultural growth would require a multi-pronged effort. Better prices for farm produce alone would not suffice.

Growth in the farm sector has been sluggish

Rising food prices has made the government jittery


VIEW OF INDIAN GOVERNMENT REGARDING RISING INFLATIONARY RATE

There are more bad news coming on the economy front. After car sales and industrial growth revealed disappointing figures, Prime Minister's Economic Advisory Council (PMEAC) came out with a grim picture of Indian economy.

In its outlook for 2008-09, the high-powered body revised the economic growth downward to 7.7%, agriculture growth projection to 2% and said inflation will continue its upward march to touch 13%. However, FM P Chidambaram was bullish that growth figure will touch 8% in the current financial year. "If the PMEAC pegs GDP growth at 7.7%, I can confidently say it will be close to 8%," he said, adding that the credit requirements of productive sector will be met.

Outgoing chairman of PMEAC, C Rangarajan said, "For some more time, inflation can increase. It could touch 13%. But by December it will start declining." The panel hoped that "inflation could be brought down to 8-9% by March 2009 through coordinated policy action."

PMEAC lowered the economic growth projection for 2008-09 to 7.7% from 8.5% forecast in January. Rangarajan said that downward revision of GDP growth was mainly on account of lower agriculture and industrial growth, and adverse fallout of global developments. RBI has forecast a growth rate of 8%. As per the PMEAC projection, agriculture production is likely to decline to 2% from 4.5% in the last fiscal, industrial production to 7.5% from 8.5% and services sector output to 9.6% from 10.8%.


In 2008-09, the PM panel said while the investment momentum will continue as it was in 2007-08, savings would decline. It said public sector savings will be adversely affected by the increase in the subsidy burden. Erosion of corporate margins would also hit private sector savings.

PMEAC said because of rising crude prices, the current account deficit in 2008-09 would go up to 3.2% of GDP in 2008-09 from 1.5% in 2007-08.

Rangarajan attributed the slowing down of economy to factors like rising oil and food prices in international market and global slowdown triggered by US subprime crisis.

Stating that the surge in inflation was mostly on account of surging global commodity prices, the PMEAC said there were serious fiscal risks arising from growing off-budget liabilities on account of fertilizer, food and oil, along with unbudgeted liabilities arising out of the farm loan waiver and National Rural Employment Guarantee (NREG) scheme. It said that these schemes would create a liability of 5% of GDP, which is double the budgeted fiscal deficit at 2.5%.

PMEAC's new chairman Suresh Tendulkar said 7.7% economic growth rate will not be "unrespectable and would be the second highest growth rate by any country."

Meanwhile, Chidambaram reiterated the view that there is no slowdown in the demand for credit, though there is indeed some slowdown in demand for personal loans. In the real estate sector, however, he said, banks have imposed certain restrains but the demand for credit in this sector continues to be very high.

Chidambaram added that many banks have not increased the interest rate on home loan up to Rs 30 lakh. Therefore, he said any rise in the interest rate would not unduly impact the sector.

To douse the anger of the common man, the government adopted the ‘fire fighting approach’ to tackle inflation. The following measures were announced: 1.Scrapped import duties on edible oils. 2. Banned export of basmati rice. 3. Reduced duty on maize imports from 15 per cent to zero. 4. Extended ban on export of pulses for one year.


5. Banned export of edible oils. 6. Withdrew export incentives in steel and cement.

The principal objective of the government was to make available supply of foodgrains, pulses, edible oils for domestic use and to facilitate the import of these commodities to reduce the impact of supply constraint. But these measures did not produce the desired effect.

Another problem is the wide gap in the prices of food items in the wholesale mandis as revealed by the figures of the Agricultural Produce Marketing Committee and those charged by retailers. The government should have set up distribution centres or used the PDS shops after making bulk purchases from wholesale markets and thus provided a competitive and countervailing structure to offer relief to the consumers but it has failed to do so. Such a fire fighting measure would have mitigated the hardship for the consumers and tamed the middlemen who are making huge profits taking advantage of the prevailing scarcity.

Failure to Improve Growth Rate in Agriculture

BASICALLY, the present inflation, which is driven by the prices of foodgrains, pulses, vegetables and fruits, is not a demand-driven inflation, but is the result of the failure of the government policy on the agricultural front to raise output. It is the supply constraint that has fuelled inflation.


CONCLUSION

India inflation rate rises to 11%…

Year Jan Feb Mar Apr May Jun Jul Aug Sep Oct Nov Dec

2008 4.84 5.23 6.02 7.95 8 8.24 11.05 - - - - -

2007 7.36 7.81 7.56 7.74 6.79 6.08 6.86 6.41 5.74 5.48 5.10 5.07

2006 5.00 4.80 5.00 4.97 5.84 6.47 5.71 6.14 7.02 7.17 6.70 6.94

FIG : INFLATION CHART

Wholesale price inflation rose by 11%. The inflation rate is now at its highest since 1995.

Inflation is being driven higher by the rising cost of fuel and food, and is well above the government’s target of between 5% and 5.5%.

Unlike most countries, India calculates inflation on the wholesale price of a basket of 435 commodities, which means actual prices paid by the consumer are much higher.

Cooking gas prices have risen by 20% and diesel is up 21%.

Although an election must be held by May 2009, our correspondent says there is some suggestion it may be held later this year.

http://buddytalk.wordpress.com/2008/06/20/india-inflation-rate-rises-to-11/


With the central bank expected to increase interest rates to try to control inflation, India’s economic growth is expected to slow down and combined with rising prices, this may translate into voter anger.

BIBLIOGRAPHY

For our study of increasing inflationary trend in India we have taken reference of the following:

WEBSITES:

www.rbi.co.in

www.bbc.co.in

www.theeconomicstime.com

www.managementparadise.com

www.htindia.com

MAGAZINES:

INDIA TODAY

OUTLOOK

BUSINESS TODAY

We had also taken reference of newspapers such as:

HINDUSTAN TIMES

TIMES OF INDIA

DECCAN CHRONICLE

THE ECONOMICS TIMES

http://www.htindia.com/

http://www.managementparadise.com/

http://www.theeconomicstime.com/

http://www.bbc.co.in/

http://www.rbi.co.in/

current inflation in indian economy

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