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Sunday , November 20 , 2011
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Inflation, uninterrupted

Hiralal Parate, an Airports Authority of India employee, and three colleagues who live in a housing complex in Dwarka in Delhi, used a car pool to commute to their office. As petrol prices inched up, they shifted to the Metro, which added one hour to their commuting time.

Leaving his car at home isn’t an option for Kapil Gautam, a senior engineer at a Delhi-based sound equipment firm, as his work involves site visits. But with fruit and vegetable prices also beginning to bite, his family has shifted to cheaper fruits like guavas and bananas instead of apples.

Life is getting difficult for the middle class. And though the government’s chief economic advisor Kaushik Basu maintains that the rate of inflation will cool by December, there’s growing scepticism about the government’s ability to tackle the problem.

“The government just doesn’t seem to be coming to grips with the situation,” exclaims Rajiv Kumar, secretary general of the Federation of Indian Chambers of Commerce and Industry (Ficci), a former finance ministry official. Replies Basu, “It isn’t easy to control a complex phenomenon like inflation. You can’t put it down to one particular source — those who do are usually making a mistake; there are multiple and very diffuse sources.”

He may have a point. Yet the current bout of price increases is fuelled by soaring food prices. Food inflation, which accounts for 14 per cent of the total inflation index, has been moving up for several months now and has been in the double digit zone since October.

If the government is in the dock for not reining in the inflation dragon, it’s because of its failure to anticipate the rise in the demand for food, especially non-cereal items like fruits, vegetables, milk, meat and poultry, thanks to rising incomes. This is particularly galling, argues former finance minister Yashwant Sinha, because several of its actions — the massive farm loan waiver, the implementation of the Sixth Pay Commission report, the National Rural Employment Guarantee programme and the stimulus package of 2008 to insulate India from the global economic crisis — put more money in people’s hands.

What could the government have done to put the lid on inflation?

For one, it could have released some of the government’s stocks of 60 million tonnes of foodgrains through the public distribution system, notes Praveen Jha, professor at the Jawaharlal Nehru University’s Centre for Economic Studies and Planning. The National Democratic Alliance (NDA) government did precisely this in 2002-2003, Sinha points out. The NDA government had also sold wheat and rice for processing into by-products to millers at prices meant for the poor, thereby pushing more food into the market. “Even an announcement of this will have a sobering effect on prices. I don’t understand why the government isn’t doing this,” Sinha says.

Secondly, some contend that the government could have lowered food import duties. Food imports aren’t restricted now and import duties have been cut in the past. But economist Bibek Debroy says that with global prices of most food items higher than those in India, even importing food at zero duty will not help dampen domestic prices, with the exception of dairy products and some edible oils.

The real solution lies elsewhere. Nearly 40 per cent of India’s fruits and vegetables are damaged — and the lack of cold storage facilities and poor roads contribute to this.

The answer is to push the retail industry to modernise and invest in the infrastructure required for the food business and reduce wastage, with the aid of foreign investors. An inter-ministerial group on inflation headed by Basu had recommended this earlier this year. But state-level Agricultural Produce Market Committee (APMC) Acts —which stipulate that farmers can only sell to designated mandis — discourage retail chains from buying directly from the farmer, apart from encouraging cartels. Sure, it will take time to modernise the retail industry, but Basu believes that reforming the APMC could show results within six months.

Thirdly, the government could have gone slow on jacking up minimum support prices (MSP) or the government-set procurement price for cereals, says economist Surjit Bhalla, chairman of Oxus Investments. Separate studies by Bhalla and Ficci show that high procurement prices not only push up the prices of these commodities but also that of other food items. Indeed, Bhalla’s study suggests that a 1 per cent increase in the MSP leads to a 0.3 per cent rise in retail prices. The Ficci study shows that vegetable prices climb around the time MSP revisions are expected.

Clearly too, the immediate measures necessary to tackle food inflation have to be supplemented by long-term policies. “There’s very little the government can do in the short- term,” says Pronab Sen, principal advisor in the Planning Commission. “There are long-term structural issues that need to be addressed.” Jha backs the point, “This is not a sudden spike; it is the result of long-term policy failures.”

Finally, the government could also have kept its expenditure under control, instead of ratcheting up spending on subsidies and welfare programmes. “I don’t see any massive dose of austerity in government spending,” says Sinha. When the government spends more than it earns, it has to borrow to cover the shortfall. Government borrowings only push more money into the system through public expenditure. Such expenditure under the current regime is only driving up demand, says Debroy.

With the government clearly unable to address these issues, the burden of inflation management has fallen on the central bank, which can only keep raising interest rates. “Nowhere in the world is monetary policy used to check demand for food,” says Sinha. The rate hikes, notes a government economist, have failed to discipline government borrowings, pushing up the cost of borrowings for the private sector. Investment in the economy is beginning to suffer, with companies going slow on new projects and expansion plans.

Kapil Gautam’s firm is already seeing less interest in the market for its sound equipment. “I was hoping for a handsome increment next year,” he says, “but it doesn’t seem likely.” Expect, then, for things to get worse, before they get better.

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