Amid the global uncertainty over economy due to the ongoing Russia-Ukraine war, inflation has become a major concern. Earlier this month, the Reserve Bank of India raised the repo rate by 40 basis points to 4.40%, to combat rising inflation. RBI governor Shaktikanta Das defended this decision by saying that the Central Bank chose price stability over growth as RBI feels that India’s macroeconomic fundamentals are intact, barring food and fuel inflation.
“The worsening outlook of inflation warrants timely action to forestall second round effects which could lead to unanchoring of inflation expectations. Heightened uncertainty and volatile financial markets could also add to such unhinging of expectations. Accordingly, decisive and measured monetary policy response is necessary to avoid any unintended shocks to the economy”, the governor had said.
The retail inflation was 7.79% in April, a 8 year high, and RBI expects it to be remain high as the Russia-Ukraine war is expected to run longer than earlier anticipated. In this backdrop, OpIndia talked to Chartered Accountant Sumeet Mehta to know more about the situation. Here is a transcript of the interview.
1. Today inflation has emerged as a big challenge. Every person is noticing it in their day to day life. What is the source of this inflation?
Mehta- A study on the impact of Russian invasion on inflation done by the economists in SBI found that 59 per cent of the jump in prices is due to geopolitical events. This is also called imported inflation, because the major reason for inflation is increase in global commodity prices including crude, metals, agricultural produce, and fertilizers. Increase in crude prices has resulted in higher fuel prices, pushing transportation costs northwards. Add to that, the global crisis arising from shortage of ships due to war has increased freight and charter costs.
2. Is this an Indian problem?
Mehta- No, this is a global problem. Majority of the countries in the world are facing the problem of inflation. In her Speech dated 11th May 2022 in Vienna on the issue of the globalisation of inflation, Isabel Schnabel, Member of the Executive Board of the European Central Bank, said that “In April, inflation in the euro area is expected to have increased to a new record high of 7.5%, causing significant concern among firms and households. Because the euro area is a net importer of energy, this surge in inflation is often referred to as “imported inflation” – in other words, inflation over which monetary policy has no, or very little, control.”
Now compare this with India, who is also an importer of energy (read crude oil), and compare that with the inflation in India, which is 7.8%. Even in OECD countries, inflation surged to 8.8% in March 2022 due to increase in energy prices.
3. What can the govt do to control inflation and to protect the people?
Mehta- There is very little leg room for the government to manage this crisis. India imports potash fertilizers from Ukraine and Russia. Now that supply has got disrupted and potash prices have shot up globally. Though, the government of India has not increased the prices in the local market and is subsidizing potash, so that farmers don’t feel the pain of increased potash prices.
However, these subsidies are inflationary in nature, because it results in a higher fiscal deficit, which in turn pushes inflation northwards. Add to that, the government will have to increase its borrowings, which will result in pulling out liquidity from money markets, again driving interest rates upwards. This in turn will result in higher borrowing cost for the government, and that will have a negative impact in the form of higher fiscal deficit. This again will push inflation upwards.
My intent to explain this whole cycle is to highlight how this is a vicious cycle and we will get hurt from all sides, irrespective of whatever means we use to curb inflation.
As such, the government is providing food grains and daal to below poverty line people at a highly subsidized cost, which is much below the cost of production and price at which the government purchases it. In this manner the government has ensured that the BPL section is largely cushioned from the increase in inflation, especially food price inflation.
However, the middle class is not within the BPL benefit net, and hence they aren’t protected from rising inflation. If at all the government decides to bring the middle class within the subsidized food grain and daal scheme, then the fiscal deficit will shoot up significantly, and that will result in higher inflation. So, there is no easy solution for this problem.
4. What should the people do to protect themselves?
Mehta- Everyone’s financial situation is different. So generally speaking it can be said that people need to be aware of the impact a spike in inflation has on their income and saving goals. The measures one takes depend on their personal situation. Someone may change the oil they use or temper the usage. Someone may look for alternative investment avenues for their savings etc. Awareness is important.
Sumeet Mehta is a Chartered Accountant by qualification and a corporate finance professional with 20 plus years of experience in equity research and private equity investment banking. He specialises in real estate and infrastructure finance and advisory, including PPP, and has authored the book “Diagnosing GST for Doctors”. Mehta has Closely worked with Ministry of Housing and Environment, Government of Maldives and Urban Development Authority, Government of Sri Lanka.