To tackle inflation effectively, several government departments have to coordinate policy action: Economic Times 19th January 2012

First we were in denial about inflation: the supply-shock explanation fell flat with very good production numbers in FY2011, likely to be replicated this year. The excuse that the poor were less poor and eating more was used to show that inflation was due to prosperity, with the MGNREGA being the motivator.

While this factor could be at play at the margin, it has not been decisive and is no longer harped on. The RBI is firing away at inflation with a relentless policy of rate hikes, which has not worked quite the way it was expected to. But we need to know how this inflation has come to tackle it appropriately.

The answer seems to be a shrug. One way to tackle this issue is to actually analyse threadbare the mechanics of inflation. This is so because inflation combat has to be a joint action from various ends and cannot be the sole responsibility of one agency, which today is the RBI. The accompanying table provides the contribution of various products to inflation along with the ministry or agency responsible.

To calculate the contribution of various sectors to inflation, the weighted change in the overall WPI and individual products has been calculated. Various products have then been grouped under different ministries that oversee their operations. The major cause of price increase has been noted so that the respective body can address price issue.

There are multiple factors that have contributed to inflation. The highest share has come from the so-called core sector: non-food, non-fuel manufactured products over which the RBI has control. Globally, prices of metals have started declining, but we have not seen that in India. So, around 40% of inflation may be attributed to possible demand-pull pressures. While global prices have come down, the rupee has depreciated, nullifying those gains.

We can see that there are various arms of the government that should take some responsibility for inflation. First, the agriculture ministry has to review its policy of minimum support prices (MSP). The MSPs have been increased relentlessly by the Commission on Agricultural Costs and Prices (CACP) to reward farmers.

While production has increased for cereals and to a certain extent in pulses, it has had the tendency to increase benchmark prices in the market resulting in higher inflation. Second, the ministries of petroleum and finance have tried to align the prices of petroleum products to the market, which actually makes us work on a delicate three-dimensional trade-off: higher prices, fiscal deficit and health of oil marketing companies. Around 11% of inflation has resulted from this factor.


Third, the ministry of consumer affairs has to address the issue of warehousing and the Warehouse Development and Regulatory Authority should put in a structure to improve storage to cut down on wastage in fruit and vegetables. Around 40% of our horticulture output goes waste due to absence of cold storages.

In this segment, we have witnessed high growth and where supply outstrips demand provided we can harness it through lower wastage. These organs need to make the system more efficient. While the contribution to inflation was negative in December, it was as high as 8.18% in October, prior to the decline in prices.

Fourth, the area of milk, dairy products, eggs, meat and so on comes under the department of animal husbandry. Higher cost of animal feed and fodder has hiked the cost of production of these products. The significant aspect of these prices is that they are never mean-reverting, which happens for horticulture and cereal products.

Fifth, the higher prices of textile products have to be looked at jointly by the finance ministry which hiked taxes on readymade garments and the ministry of agriculture, which oversees the MSP. But they might have limited control because of global factors.

Sixth, there is the global factor in the form of oil prices that directly impacts the prices of domestic crude as well as non-regulated oil products. Global prices translate into domestic ones through the exchange rate mechanism. The RBI could have a role to play in stabilising exchange rates to smoothen price volatility.

The inflation matrix is, hence, quite complex and there is evidently no singular solution. And the conundrum really is that as every constituent is impacted by inflation - as the producer of a product consumes other products whose prices are increasing, there is an inherent motivation to increase one's own price to maintain the standard of living.

This inflationary spiral, or rather the vicious circle, needs to be broken, and it appears that it can happen only in the medium run.

Roughly 70% of inflation can be addressed by various departments while the balance, which includes global influences, would still be beyond anyone's purview. What is most important is that all these departments should start talking to one another.