Government policy, infrastructure, global commodity prices, currency swings and rising incomes have more influence on prices than rains. Excess government demand for food grains is pushing up food prices more than the lack of rain. The government is acting as the country’s biggest hoarder but is not releasing grain into market to cool prices when it should. The government’s archaic Agriculture Produce Market Committee Act–which dictates who can trade produce–adds to prices by creating a cartel, while poor storage and lack of refrigeration for vegetables and fruits also contribute to chronic inflation.
Monsoon rain shortfalls and inflation data for the last 15 years, shows that the June-through-September rains are not usually a very good indicator how inflation will move.
If you look at end-of-the-calendar-year CPI inflation rates, most of the highest post-monsoon inflation since 1999 has been in the last five years, of which only one year—2009—was drought year.
The average inflation rate at the end of the last three drought years–2009, 2004 and 2002–has actually been lower than the last 15 years. Meanwhile the worst end-of-the-year inflation in the last decade and a half came in 2000 when there was a relatively good monsoon. The inflation rate in India was recorded at 4.87 percent in April of 2015. Inflation Rate in India averaged 8.60 percent from 2012 until 2015, reaching an all-time high of 11.16 percent in November of 2013 and a record low of 4.38 percent in November of 2014. The year 2014 was also a year that indicated lower monsoon than the normal average. The inflation was the lowest in November 2014 after rains were delayed in 2014. On the contrary the monsoon that was early and long for the year 2013 had the highest inflation as per records.
Government should take up the slack in the economy
The focus of the RBI had been on controlling rising inflation expectations over the last two years, sacrificing growth for the Indian economy. The 2nd June 2015 monetary policy announcement suggests that even though the focus remains on inflation, there is consideration to revive growth in the economy. The RBI despite revising inflation upwards from 5.8% levels to 6% levels for January 2016, cut interest rate by 25 basis points. The equity markets tanked more than 2.5% after the announcement of the monetary policy as risks remains high to food inflation on account of below par monsoon and the effects of unseasonal rains yet to show up in retail prices.
The Government has to now consider what kind of spending in the economy can boost a pickup in demand for goods and services after interest rates have been cut by 75 basis points in the calendar year 2015.
The Government is in a catch 22 situation, as on one side they have to control the fiscal deficit which is still high at 4% of the GDP as on March 31st 2015 and on the other side they have to boost spending to initiate a pickup in demand for the economy. The RBI has clearly given a signal to the Government by cutting interest rates. The Government has to now think of implementing policies that are favourable for generating demand in the economy.
The reason why the RBI has cut interest rates is because of the fact that higher growth with moderate amount of inflation can revive the business cycle from a negative sentiment to a positive sentiment. Revival in business sentiments can channelize growth in the GDP of the country. Economic growth translates into higher wages for employees and higher profits for industries. Higher wages and lower interest rates allows the credit growth to pick up, which is at a low for the Indian economy. Uptick in the investment cycle can increase capacity for products, which in turn can bring down inflation concerns to some extent.
Food and fuel inflation is not under the control of the Government and the RBI, as the factors that cause the shortages in supply are outside their control. Effective governance and sound implementation of policies to control inflation in purview of the Government is practically possible.
The point here is that if the Government is able to control the inflation by management of the food stock and prudent spending, the economy very well looks to be on the correct growth path. The rate cut would take some time for growth to actually percolate to industry and company level but at least the process can begin.
Clearing infrastructure bottlenecks by getting pending projects up and running may become beneficial in the long run for the economy. Infrastructure bottlenecks can heat up inflation if the supply is not channelized effectively through the physical market system. Lower interest rates help the infrastructure sector to manage costs effectively by lowering of interest payments on borrowed funds.
Implementation of the GST would simplify the tax system that remains complicated in the current scenario.
The Government has to also consider management of food inflation in terms of creating sufficient storage of food grains, implementing a robust supply chain management system where food grains do not rot when inflation soars up. The estimates of the Ministry of Agriculture indicate a contraction in food grains production by more than 5% in relation to the preceding year’s with worsening of the situation because of damage to crops like pulses and oilseeds – where buffer food stocks are not available in the central pool – posing an upside risk to food inflation. For the kharif season, the outlook is clouded by the first estimates of the India Meteorological Department (IMD), predicting that the southwest monsoon will be 7 per cent below the long period average. This has been exacerbated by the confirmation of the onset of El Nino by the Australian Bureau of Meteorology. Agricultural activity was adversely affected by unseasonal rains and hailstorms in north India during March 2015, impinging on an estimated 94 lakh hectares of area sown under the rabi crop.
However, Skymet, India’s leading weather forecasting and agriculture risk solutions company has released its Monsoon foreshadow for 2015. Skymet expects the coming Monsoon to be ‘normal’. It has forecast the Monsoon at 102% (error margin of +/-4%) of the long period average (LPA) of 887 mm for the four-month period from June to September.
Contingency plans for food management, including storage of adequate quantity of seeds and fertilisers for timely supply, crop insurance schemes, credit facilities, timely release of food stocks and the repair of disruptions in food supply chains, including through imports and de-hoarding, needs to be in place to manage the impact of low production on inflation. Inflation control will also be helped by limiting the increase in agricultural support prices.