Explained: Inflation is heating up but why it hasn’t burned the political economy yet

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Inflation reached a 17 month high. Disaggregated March Consumer Price Index data shows nearly a dozen commodity groups, including clothing, milk, vegetables and personal care, hitting multi-month highs, suggesting that inflation is becoming structural and that the drop in fuel prices should not temper the trend.

But the price spike has not had a negative impact on political outcomes, given the results of the recent national elections.

Analysts point to several factors at play. First, food inflation – where household price sensitivity is highest – was not boiling until recent months.

Second, subsidized food supplies to the most vulnerable families provided them with a cushion. Third, although inflation was moderately high, it did not stay high for a long time. Fourth, the general level of inflation tolerance in India is considered to be higher than in other countries.

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And finally, the political opposition may have flagged the rising prices, but refrained from offering tangible solutions. Indeed, on fuel prices, for example, opposition-led states have not rushed to cut tariffs, given its revenue implications.

The lack of noise, however, is a cold comfort.

What worries government economic managers is rising wages due to rising food prices, which will have a knock-on effect on headline inflation.

An unprecedented revision of the prices of essential medicines from April 2022 and the cascading secondary impact of fuel prices should only intensify the process of inflation becoming structural.

“A lot of it will be a concern about food prices; food is the predominant component of the inflation index at about 45 percent of the basket. While the other clothing and footwear components have shown strong inflation over the last 2-3 draws, household price sensitivity is highest in food. High food prices hurt consumers the most,” says Rahul Bajoria, Chief Economist, Barclays.

In addition to seasonal factors, food prices have increased with the pass-through effect of high fuel prices and likely higher consumption in rural areas where workers have migrated during the pandemic.

“In terms of production, nothing dramatic happened. The issue of supply chains has also been pretty much settled. So where did that come from? A possible answer is, after the pandemic and after the shutdowns, there has been a flight of people from urban to rural… So the number of people in the villages has probably increased compared to the pre-pandemic period.This has basically led to more food consumption in the villages, which is are at the points of production. There may have been a reduction in the surplus coming into the market,” says Pronab Sen, India’s former chief statistician.

High inflation may not have much impact on the political economy, as the poor appear to have been protected by the Pradhan Mantri Garib Kalyan Anna Yojana (PMGKAY), which has now been extended until September 2022.

Referring to this, the Chief Economic Advisor of the State Bank of India Group, Soumya Kanti Ghosh, says, “Free food grains are one of the reasons. The second reason is that inflation often occurs in some products such as tomato, onion, potato, resulting in turmoil. But this time, most items in most consumer baskets saw inflation. In addition, inflation is high in products such as edible oils, palm oils; gasoline and diesel prices are also high. I don’t know if politics is separate from economics. Too early to tell since inflation was largely under control outside of the two years following the pandemic.

Under the PMGKAY programme, 5 kg of food grains (wheat, rice, coarse grains) are provided each month free of charge to each beneficiary. About 80 million beneficiaries are covered by the program and the amount provided exceeds their entitlements under the national food security law.

Unlike India, high inflation in developed countries also follows huge fiscal expansion. “You had that initial kick that came from any suppressed demand, but it’s for a very small segment of society. Most other people have dipped into their savings. So if you look at this what’s happening in India, consumption has been subdued. It’s only started to recover a bit now. And that’s when inflation started to kick in,” Sen said.

Experts note that with the pandemic affecting MSMEs on a larger scale, pricing power now rests more with businesses. A protracted conflict between Russia and Ukraine is also expected to aggravate already high commodity price levels.

“The second-order effects of fuel prices will largely be felt through public transport and logistics costs; it will be felt through airlines, railways and passenger fares. The secondary effects will show that if a service becomes expensive, it will be a function of the increase in wage costs. The second-order pass-through in services tends to be weaker when it comes to energy prices,” says Bajoria.

According to ratings agency Crisil, the Russia-Ukraine crisis has amplified cost pressures and supply disruptions around the world and for India the impact will be felt mainly through high oil prices. raw.

“Underlying inflation is expected to face pressure from companies passing on costs more to retail prices next fiscal year. Food inflation is expected to remain benign due to the normal monsoon, although higher fertilizer and international food prices could add some upside,” he said in a February note.

In the first nine months of the current fiscal year, urban inflation at 5.5% was 50 basis points (bps) higher than rural inflation and it is the urban poor (the bottom 20% ) who faced the highest inflation, at 5.6%. according to Crisil. Indeed, fuel, with the highest inflation, has a greater share in the consumption of the poorest 20% than other income categories in urban areas.

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Meanwhile, inflation for producers – measured by the Wholesale Price Index (WPI) – has been in double digits this fiscal year and hit a record high in November, driven by the low base in fiscal 2021. and the sharp increase in commodity prices.

On the food price front, according to the RBI, a record rabi harvest would help control domestic grain and pulse prices. Global factors such as the loss of wheat supplies from the Black Sea region and record international wheat prices could, however, put a floor on domestic wheat prices, while pressures on edible oil prices are expected to remain. high in the short term due to export restrictions by major producers as well as loss of supply from the Black Sea region.

Additionally, feed cost pressures may continue due to global supply shortages, which could have a ripple effect on poultry, milk and dairy prices. And among non-food products, the surge in international crude oil prices since the end of February poses a substantial risk to inflation through its direct and indirect effects.

“Inflation is likely to rise because of two factors: last year, at this time, price growth was negative for commodities such as grains, so the weak base effect will push inflation market supply is decreasing slightly for food products such as wheat Exporters are selling wheat on the world market taking advantage of the Russian-Ukrainian conflict If this can be checked or controlled by the government, it will have an impact not only on wheat prices but also on food subsidies,” said Devendra Pant, chief economist, India Ratings.

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