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Inflation marks a new pain point

  What does this mean for the Indian economy? The higher than-expected inflation number will expedite the normalisation of monetary policy, not just on the liquidity front but also in terms of interest rate hikes.

Retail inflation, as measured by the Consumer Price Index (CPI), grew at 6.95% in March. The latest inflation number has surprised analysts. A Bloomberg poll of economists put this number at 6.4%. March is the third consecutive month when CPI has stayed above the Reserve Bank of India (RBI)’s tolerance band of 6%. Given the fact that the March numbers do not capture the full impact of fuel-price hikes, inflation is expected to gain momentum in April. To be sure, fuel is not the only factor driving inflation. Food inflation has breached the 7% mark and is expected to stay at elevated levels, given the global surge in food prices. Economists also expect core inflation to remain at high levels as businesses pass on the rise in input costs to consumers. What does this mean for the Indian economy? The higher-than-expected inflation number will expedite the normalisation of monetary policy, not just on the liquidity front but also in terms of interest rate hikes. Given the fact that the inflationary surge is accompanied by a continuing slack in economic output — the Index of Industrial Production growth in February was 1.7%, a percentage point lower than the forecast by the Bloomberg poll of economists — this will lead to some pain. There is a class aspect to the inflationary pain in the economy. Because the poor spend a bigger share of their income on food, higher food inflation also means a greater squeeze on their purchasing power. When seen in this context, the government’s decision to extend the free ration scheme by another six months is a welcome move. Last, but not least, is the question of inflationary noise in government finances. Both taxes and government spending are measured in nominal terms and rising inflation will give an artificial boost to both these numbers. It is important that policymakers do not get swayed by what might be an inflationary upward bias in spending and revenue collection numbers — because this is not a genuine pickup in economic activity or fiscal boost.If the price of crude oil stays around the $100 per barrel level in 2022-23, which is what RBI now expects, inflation will continue to remain a pain point. The effects are bound to find resonance in politics as well.
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