Bringing tears to Indians' eyes
Jan 21st 2011, 14:00 by S.D. | LONDON
..
HEADLINES about the Indian economy—particularly in the international press—have in recent times been dominated by excitement about near double-digit growth and speculation about when (and whether) India is on track to start growing faster than China. But domestically, (and now elsewhere, too) the big economic—and increasingly political—issue is a familiar one: runaway inflation.
The Indian press is obsessively following the price of onions, which saw a massive spike at the end of last year and the beginning of this one. On Twitter, Indians have noted sarcastically that at one point last week, the prices of a kilo of onions, a litre of petrol and a bottle of beer (presumably in some places, since alcohol taxes vary a lot by state because of state-level taxes) were all the same. Onions get a lot of attention in India partly because many people believe (perhaps rightly, I can't claim to be sure) that they're one of the things that even the poorest Indians buy (along with rice or wheat, cooking oil and salt). There's a stereotypical image of a very poor person in India subsisting on a couple of rotis, a pinch of salt, and some raw onions for flavour. (Actually the stereotype of really dire poverty is that meal, minus even the onions—"two dry rotis with a pinch of salt" is the North Indian shorthand for being in really dire straits). So the idea of onions becoming absurdly pricey has a certain political charge.
And onion prices do reflect a broader trend. Food inflation is in double digits, and overall wholesale-price inflation (WPI, which, rather oddly, is the measure policymakers in the country follow) is in the high single-digits. December's annual WPI inflation rate was 8.4%, up from 7.5% in November. This makes India something of an anomaly globally. In rich countries (with the possible exception of Britain), deflation remains the bigger worry, but India's inflation is also substantially higher than in other emerging economies.
It's worth noting, though, that for all the noise around inflation in India recently, it's not as though overall inflation has spiked all of a sudden. The recent inflation figures are in fact relatively low, at least compared with the rest of last year. December's 8.4% WPI inflation was in fact the second-lowest of last year; from March to July inflation was over 10%. So in a sense, perhaps the real question ought not to be why inflation is high now, but why India seems to have chronically high inflation.
Kalpana Kochhar, a senior official at the IMF's Asia desk argues that India is a chronically supply-constrained economy, with chronic excess demand. In the course of the economic cycle, therefore, price pressures tend to be exaggerated. It's worth noting that in the middle of 2009, Indian policymakers were debating whether the country was likely to fall into persistent deflation. WPI inflation was in fact negative year-on-year in June and July last year, and below 2% for every month between March and September. So rather than call India a persistently high-inflation economy, it may be better to think of it as a country where inflation is relatively more volatile through the business cycle than in other countries.
Some excellent historical perspective can be found in this speech made in September last year by Deepak Mohanty, the executive director of the Reserve Bank of India. (That speech is also a great primer on how Indian WPI inflation is calculated; Mr Mohanty was making it soon after the basket was revised. Among other changes, the weighting of food products in the basket used to calculate the WPI was reduced last year to 24.3% from 26.9%.)
Mr Mohanty notes that the recent period of high inflation is not exactly historically unprecedented, though to be fair it is clearly not the norm.
"
Going by the current experience of 5-6 months of double digit inflation as high, one can trace 9 such episodes in the last 56 years. Out of these 9 episodes, double digit inflation lasting beyond a year occurred on 5 occasions. The most prolonged one lasted for 30 months during October 1972 to March 1975. The last such high inflation was in the mid-1990s which lasted 15 months between March 1994 and May 1995."
It doesn't help that Indian agricultural output is very volatile, partly because of poor infrastructure, bad supply chains, poor storage facilities, and the like. This means that changes in weather conditions or other factors affecting output can lead to really large price fluctuations. In the case of onions, unseasonal rain in October that destroyed crops in Maharashtra appears to be the main culprit. It's worth noting, also, that India's consumer-price index has an much higher weight on food products compared with other countries, and CPI inflation has been running ahead of WPI inflation.
Mr Mohanty has a nifty table summarising the causes of the periods of high inflation. Drought features prominently. For the most recent episode, he also blames the rise in global commodity prices.
But it also appears to me that Indian policymakers tend to underestimate this trend. In April 2009, the governor of the country's central bank was quoted as saying that he expected WPI inflation to be at 4% in March 2010. In fact, it was 10.2% that month, and stayed at or above 10% in every month till July. And while the RBI does not formally target inflation, there are plenty who think that it has been too slow to tighten monetary policy. It has in fact been raising rates regularly since March last year, but only very gradually. Some reckon it should have tightened faster. The RBI is, of course, wary of choking off India's rapid recovery from the slowdown in growth during the global economic crisis. Its governor, D Subbarao, said on January 17th that "For the Reserve Bank the challenge is to calibrate monetary policy taking into account the demands of inflation management and the demand of supportive recovery".
Meanwhile, the usual problems with persistently high inflation are being felt, and not just by those buying onions. Indian banks are seeing rising loan-to-deposit ratios as savers move their money into perceived inflation hedges like gold and property. Bank deposits increased by 16.5% in the two weeks ended December 31 from a year earlier, lagging a 24.4% increase in lending, according to RBI data. "The shift of the Indian household sector from deposits to inflation hedges such as property and gold is creating a liquidity crunch in the banking sector that's unlikely to be solved in the near future," Kristine Li, senior director of Asia-Pacific credit strategy at Royal Bank of Scotland Group Plc, told Bloomberg. "If banks' loan growth decelerates, asset quality concerns are likely to return."
More broadly, though, I sense that for all the sound and fury, the political tolerance for a period of high inflation has risen. I suspect this is to do with the fact that earlier episodes of high inflation in India occurred in an economy where income per head rose very sluggishly indeed. Now, with real rates of economic growth near 9%, and slower population growth than before, real incomes are rising fast enough that people are willing to put up with high inflation for some time. Of course, high inflation for a long period also risks damging the growth story. But for the moment it appears Indian policymakers are content to wait for short-term supply constraints to ease, while continuing to tighten roughly at the pace they've been doing. K.C. Chakrabarty, deputy governor of the RBI, said on January 11 that inflation was in a difficult situation but manageable.
As for onions, I noticed on my last trip to India around Christmas that the demand curve was, indeed, downward sloping. In several restaurants of the kind where one expects a plate of chopped onions, tomatoes and cucumbers to appear gratis with the main dish, the plate that did arrive was conspicuously devoid of the onions.
Indian inflation: Bringing tears to Indians' eyes | The Economist
