Inflation Worries

Arshad Shaikh looks at the recent spurt in prices of fuel and essential commodities and checks how inflation is threatening India’s post-Covid economic rebound. Inflation worries have to find its way into our monetary policy but more than that, it is important for the government to look at its root cause and try to remedy…

Written by

Published on

The government needs to look at its root cause and remedy the situation

Arshad Shaikh looks at the recent spurt in prices of fuel and essential commodities and checks how inflation is threatening India’s post-Covid economic rebound. Inflation worries have to find its way into our monetary policy but more than that, it is important for the government to look at its root cause and try to remedy the situation for the long term.

Official data on retail inflation is worrying. In March, it climbed to a 17-month high of 6.95%. This level of inflation broke the expectations of experts (RBI’s Survey of Professional Forecasters) who had predicted CPI (Consumer Price Index) inflation of 6.22% in March 2022.

Currently, our central bank, the RBI has been mandated with a CPI inflation target of 4% with an upper tolerance limit of 6% and a lower tolerance limit of 2%. It was only in September 2019 that CPI inflation was under 4%. It means CPI inflation has remained above the target for the last 30 months.

Food and beverages account for 46% of the weight of the CPI. With oils and fats, meat and fish, fruits, and spices appearing as the top four items with the highest month-to-month price-rise in the CPI for March, it was easy to conclude that food prices were driving this unprecedented inflation.

NSO data says that consumer food prices have doubled between March 2021 and March 2022. The consumer food price inflation for rural areas went from 3.94% in March 2021 to 8.04% in March 2022.

CPI for rural India went from 4.61% in March 2021 to 7.66% in March 2022.  For the same period, Consumer Food Price Inflation for India (rural plus urban) has jumped to 7.68% from 4.87%. Oils and fats registered a whopping 18.79% spike between March 2021 and 2022. Other notable increases include vegetables (11.64%), meat and fish (9.63%), fuel and light (7.52%), clothing and footwear (9.40%).

Inflation is taxation without legislation. It reduces the purchasing power of the consumer and hence has a direct impact on aggregate demand eventually dampening the economy. It also erodes the value of wealth and savings making it challenging for investors and savers to retain their earnings and protect them from depletion.

World Bank Group president, David Malpass, recently said: “For every one percentage point increase in food prices, 10 million people are expected to fall into extreme poverty. The rich can suddenly afford expensive staples, but the poor cannot. Malnutrition is expected to grow and its effects will be the hardest to reverse in children.”

Inflation affects everyone and yet there is significant divergence in attributing reasons and possible solutions for surmounting it. There is no disagreement, however, that this menace must be tamed.


When the central bank of a country takes upon itself the official mandate to maintain the rate of inflation within a targeted range, it is known as “inflation targeting”. The main benefits of inflation targeting are enhanced predictability and transparency in monetary policy.

One difficulty with inflation targeting is that emerging economies cannot permit exclusive focus on inflation through monetary policy and they need to cater to the needs of growth through expansionary monetary policies. Thus, central banks have a tough balancing act in trying to ensure adequate money supply and yet keep prices stable.

The 2008 global financial crisis brought home the point that price stability need not necessarily translate into financial stability and the aspect of ‘regulation’ in the banking industry is critical in preventing financial meltdowns. Some say that inflation targeting is appropriate for developed economies as their monetary policy transmission is quite efficient. Monetary transmission is a process through which a central bank’s monetary policy signals like repo rate, etc. are transmitted through the financial system to influence both businesses and households.

The monetary transmission in emerging economies such as India is inefficient and hence inflation targeting may not be that effective. The main task under inflation targeting is to increase the rate of Interest through a contractionary monetary policy. Consequently, this affects credit offtake, spending and ultimately puts a brake on GDP growth. Inflation targeting also does not take into account the supply-side disruptions.


At the academic level, there are different theories of inflation. The market power theory propounds that some market players at the level of producers or wholesalers keep prices at levels that are not in the comfort zone of consumers. Their greed for maximum profit combined with their market power to leverage the situation in their favour leads to inflation. This market power can be exhibited at the local level in the form of some ‘x commodity’ producers association to the transnational organisation of the petroleum exporting countries (OPEC).

The conventional demand-pull Inflation theory states that inflation is simply a mismatch between excess demand and reduced supply.

Another prominent theory to explain inflation is cost-push inflation (also known as wage-push inflation).  It says that when prices go up due to increase in wages and the cost of raw materials, these higher costs of production may reduce overall production. As the demand remained the same, the increase in production cost is passed to consumers resulting in cost-push inflation.


The monetary policy of the central bank (RBI) plays the most critical role in taming inflation. Taking significant cognizance of inflation figures, the RBI in its latest Monetary Policy Committee (MPC) meeting dated April 8, 2022 raised its forecast for inflation (4.5% to 5.7%) and reduced its growth estimate (7.8% to 7.2%). There is now a distinct possibility of the RBI hiking repo rates from June onwards, indicating a shift in monetary policy after a long time.

Quoting an RBI paper, a recent editorial in the Indian Express points out that “wastage of food products due to inefficient post-harvest practices is one of the important factors behind high food inflation in India.”

The editorial says: “India at 0.02 lags far behind other big economies such as China (0.8), the UK (1.09) and the US (4.4). Not only is India comparatively deficient, but the existing warehousing is inefficiently distributed as well. According to the RBI, nearly 70 per cent of the country’s total capacity is limited to four states – Uttar Pradesh, West Bengal, Punjab and Gujarat – whereas states like Maharashtra and Karnataka, which have large export potential as well, do not have adequate facilities”.

Inflation is a “political hot potato” and tends to aid anti-incumbency, thus making governments extremely sensitive to price rises especially when it comes to daily household consumption goods like oil and vegetables. Regrettably, the political climate in our country has blunted this correlation between inflation and anti-incumbency.

The best approach to solve any problem including that of inflation is to follow the golden mean. We need to strike a balance between our needs and the available resources. Produce only as much as you consume. Excessive production without corresponding demand results in losses and unemployment. Additional and artificial demand (created by an interest-based financial system) leads to demand-pull inflation.

The Qur’ān sets the principle of the golden mean – “They are those who, when they spend, are neither extravagant nor miserly, but follow a middle way between them.” (Surah Furqan: 67) Inflation can be tamed but not with the present worldview.