RBI’s Obsession with Inflation – A layman’s thoughts!

October month IIP shrank by 0.4% over corresponding month last year, inflation for October 7.5% over the corresponding month last year. April to October this year, exports from India decreased by 6.18% in Dollar terms over corresponding period last fiscal, and Imports decreased by mere 2.66% during the same period. RBI Governor, Mr. Duvvuri Subbarao dashes all hopes of interest rate cut by suggesting inflation is still too high. It sure is!

But on closer analysis we realize that much of the inflationary pressure on economy is exercised by two commodities – food and crude. Both these commodities display highly inelastic demand versus price relationship. The prices of these two commodities have observed upward movement primarily due to supply side constraints, and not due to surplus money in the market. By maintain high interest rate regime, it would be naïve to assume that the demand for food and crude can be controlled and the inflationary pressure moderated. In a growing economy like India, we should start feeling more comfortable with higher levels of inflation if we are unable to ease supply side constraints. What we need today is faster economic growth that can help us generate resources for building agri-infrastructure, and help curtail losses of food-grain and other farm products. We need more structured and strategic approach to nurturing and developing our farms. Laissez-faire approach to infrastructure development is already proving Achilles Heal for the economy. We need to revive projects like river linking, and take up post harvest storage and transportation on priority. We need policy makers that do not run the nation, rather ones who move the nation.
While the adjoining graph does indicate string reversal in inflation with steady increase in interest rates in Indian economy, but it certainly is not presumptuous to believe that much of this reduction in inflation has come from depressed prices of industrial products, and not from essential commodities like food and crude. At the same time the Index of Industrial Production has observed a steady decline over the last three years.
The role that interest rate plays in exerting inflationary pressure cannot be undermined, yet it remains to be understood how we may control prices of these two essential commodities by tightening interest rate regime in the economy. What higher interest rates have done to economy is it has affected the industrial production, and depressed demands for industrial products. Are we killing the golden goose! We are stifling the source of resource generation. Our exports are dwindling, and we are unable to curb imports (with crude imports increasing by 9.99% in the period under reference). These all has resulted in trade deficit widening by 3.19% during the period under review. Add to this the shrinking FDI inflow, and we have reasons to worry. FDI inflow during July-September quarter declined by 10% over the previous quarter. Comparing this with only 4.4% drop in OECD outflow during the quarter, and we know there are countries managing their economy far better than we are managing ours.
Further the declining exports, widening trade deficit and falling FDI inflow are contributing to fast erosion in the value of currency too. This further contributes to the inflationary pressure as imported goods, primarily crude, keeps becoming dearer for Indian households. Aren’t we driving away growth with a singular focus on inflation, with a complete disregard for all repercussions we may face!
Hasmukh Agrawal
The author is the chief mentor at MyOrangeSlate.com
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One thought on “RBI’s Obsession with Inflation – A layman’s thoughts!”

  1. Wow that was strange. I just wrote an very long comment but
    after I clicked submit my comment didn’t show up. Grrrr… well I’m not writing all that over again.
    Anyway, just wanted to say wonderful blog!

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