"Public expectation Number One is that Modi needs to bring down prices," declared Arnab Goswami on Times Now on Tuesday night. Viewed by less than three million people, the English news channel often grandiosely claims to speak for a nation of 1.27 billion people. But on Tuesday night, Goswami might have been accurate in his assessment of the national mood.
Pre-election surveys found that inflation was one of the most important – if not the most important – concerns among voters. What pinched people the most were the rising prices of food. With prices shooting up further during the course of the election, it is incontrovertible that food inflation played a large role in the defeat of the Congress and the victory of Narendra Modi-led Bharatiya Janata Party.
But a phenomenon that may have served as an enabling force during the election could soon turn into Narendra Modi's chief challenge, particularly since early forecasts have signalled less-than-normal rainfall this monsoon.
What can Modi do to bring down food inflation?
The solutions depend on what the new government identifies as the cause of the increase. Among economists, there are different views on what might be keeping food prices high.
Demand
A popular explanation for high prices of food is the rise in incomes in India. Economists argue that as incomes rise, people are able to afford a better diet. They swap cereals for protein-rich foods, leading to increased demand for milk, eggs, fish and oil. In an analysis of food expenditure patterns between 2004-2012, Sthanu R Nair of Indian Institute of Management, Kozhikode, concluded that "rising domestic demand pressures have contributed to the upward spiral in the prices of six high-value food commodities – pulses, milk, egg, fish, meat and edible oil – in recent years". The upward spiral has taken place because the supply of the commodities has failed to keep pace with the rising demand.
Apart from protein-rich foods, the prices of fruits and vegetables too have risen faster than cereals.
"These commodities are largely perishable in nature and require a fast-moving infrastructure, cold storages, etc, and there is extreme paucity of these in the country, pointing towards the need for a major reform package to build their efficient supply lines," Ashok Gulati, chairman of the Commission for Agricultural Costs and Prices, and Shweta Saini, an independent researcher, have argued in this paper.
Economists say government policy will have to focus on the supply side of agriculture. "It would have to ensure more food and thereby a decline in relative prices,” writes Sukanya Bose of the National Institute of Public Finance and Policy. “This is how industrial economies have solved their food problem. Over very long periods of 25 to 30 years, countries like South Korea had a higher rate of per capita food growth than India had of aggregate food growth. On the other hand in India…between 2004-'05 and 2009-'10, growth in food consumption on an average stood at 4.1%, whereas growth in food production remained at 3.1%. The higher demand for food in an economy witnessing accelerated growth, at the same time that the growth of food production (and per capita availability) has stagnated, caused a serious mismatch in demand and supply."
Cost
If the food shortfall keeps prices high, food surplus should bring the prices down. But even bumper harvests of food grains have failed to reduce prices, leading some economists to argue that India is witnessing not just a demand-pull inflation but also a cost-push inflation. Farmers are unable to sell at lower prices because their costs of production have gone up. The rising cost of agricultural labour is cited most commonly in such analyses.
Agricultural wages rose at an average annual rate of 20% between 2009 and 2012 (although offset by inflation, real wages grew at just 2.67% and 3.67% for men and women between 2005 and 2011). There has been much debate over the role of the United Progressive Alliance's rural job programme MGNREGA in pushing up wages and leading to a price spiral. In a paper published last month, Ashima Goyal and Akash Kumar Baikar of the Indira Gandhi Institute of Development Research discounted such a possibility. They argue that the spread of MGNREGA did not raise wages and the impact of wages on food prices was not large. Gulati and Saini also cite other factors – growth in GDP and in construction sector – as contributing to a rise in farm wages.
Either way, labour is not the only farm input that has become more expensive in recent years. Between 2009 and 2013, the average wholesale price index rose by 8.17%. But the index for fodder grew by 19.64%, light diesel oil by 19.01%, farm electricity by 12.66% and fertilisers by 9.74%.
Fiscal deficit
A rise in fuel and fertiliser prices increases the cost of producing food, which in turn leads to a rise in food prices. This argument has formed the bedrock of government subsidies for fuel and fertiliser companies. But keeping fuel and fertiliser prices artificially low also leads to inflation. The subsidies come out of the government's pocket, worsening its finances. "It would not be incorrect to blame the ballooning fiscal deficit of the country today to be the prime reason for the stickiness in food inflation," argue Gulati and Saini.
They trace India’s current fiscal deficit crisis to the stimulus packages of 2008-'09. That year, an international recession forced governments across the world to increase their spending through stimulus packages to compensate for the lack of private spending. "While China spent lot of it on developing infrastructure, Indian fiscal package largely comprised of boosting consumption through outright doles (like farm loan waivers) or liberal increases in pay to organised workers under Sixth Pay Commission and expanded MGNREGA expenditures for rural workers. All this resulted in quickly boosting demand. But with several supply bottlenecks in place, particularly power, water, roads and railways, etc, very soon, ‘too much money was chasing too few goods’.”
India’s fiscal deficit crossed 8% of GDP. And the government made it worse, they argue, by adding the burden of fertiliser subsidies.
While a rollback of salary hikes for government employees might not be possible, economists say fuel and fertiliser subsidies can be brought down. In a piece written in October 2013, Ajay Chibber, director-general of the union government's Independent Evaluation Organisation, wrote, "Fertiliser and fuel subsidies must be brought down, but (the reduction) will have short-term adjustment costs before (it can) produce long-term benefits. For example, diesel price increases will have pass-through effects – a one per cent increase in diesel prices increases inflation by almost 0.1 per cent in the short term. But, as it reduces the fiscal deficit, the longer-term impact is lower inflation." Chibber hinted that the government might not be capable of "managing this trade-off before an election”.
The elections are over but the question remains: will even a government with a thumping majority be able to manage the trade-offs any better?
Pre-election surveys found that inflation was one of the most important – if not the most important – concerns among voters. What pinched people the most were the rising prices of food. With prices shooting up further during the course of the election, it is incontrovertible that food inflation played a large role in the defeat of the Congress and the victory of Narendra Modi-led Bharatiya Janata Party.
But a phenomenon that may have served as an enabling force during the election could soon turn into Narendra Modi's chief challenge, particularly since early forecasts have signalled less-than-normal rainfall this monsoon.
What can Modi do to bring down food inflation?
The solutions depend on what the new government identifies as the cause of the increase. Among economists, there are different views on what might be keeping food prices high.
Demand
A popular explanation for high prices of food is the rise in incomes in India. Economists argue that as incomes rise, people are able to afford a better diet. They swap cereals for protein-rich foods, leading to increased demand for milk, eggs, fish and oil. In an analysis of food expenditure patterns between 2004-2012, Sthanu R Nair of Indian Institute of Management, Kozhikode, concluded that "rising domestic demand pressures have contributed to the upward spiral in the prices of six high-value food commodities – pulses, milk, egg, fish, meat and edible oil – in recent years". The upward spiral has taken place because the supply of the commodities has failed to keep pace with the rising demand.
Apart from protein-rich foods, the prices of fruits and vegetables too have risen faster than cereals.
"These commodities are largely perishable in nature and require a fast-moving infrastructure, cold storages, etc, and there is extreme paucity of these in the country, pointing towards the need for a major reform package to build their efficient supply lines," Ashok Gulati, chairman of the Commission for Agricultural Costs and Prices, and Shweta Saini, an independent researcher, have argued in this paper.
Economists say government policy will have to focus on the supply side of agriculture. "It would have to ensure more food and thereby a decline in relative prices,” writes Sukanya Bose of the National Institute of Public Finance and Policy. “This is how industrial economies have solved their food problem. Over very long periods of 25 to 30 years, countries like South Korea had a higher rate of per capita food growth than India had of aggregate food growth. On the other hand in India…between 2004-'05 and 2009-'10, growth in food consumption on an average stood at 4.1%, whereas growth in food production remained at 3.1%. The higher demand for food in an economy witnessing accelerated growth, at the same time that the growth of food production (and per capita availability) has stagnated, caused a serious mismatch in demand and supply."
Cost
If the food shortfall keeps prices high, food surplus should bring the prices down. But even bumper harvests of food grains have failed to reduce prices, leading some economists to argue that India is witnessing not just a demand-pull inflation but also a cost-push inflation. Farmers are unable to sell at lower prices because their costs of production have gone up. The rising cost of agricultural labour is cited most commonly in such analyses.
Agricultural wages rose at an average annual rate of 20% between 2009 and 2012 (although offset by inflation, real wages grew at just 2.67% and 3.67% for men and women between 2005 and 2011). There has been much debate over the role of the United Progressive Alliance's rural job programme MGNREGA in pushing up wages and leading to a price spiral. In a paper published last month, Ashima Goyal and Akash Kumar Baikar of the Indira Gandhi Institute of Development Research discounted such a possibility. They argue that the spread of MGNREGA did not raise wages and the impact of wages on food prices was not large. Gulati and Saini also cite other factors – growth in GDP and in construction sector – as contributing to a rise in farm wages.
Either way, labour is not the only farm input that has become more expensive in recent years. Between 2009 and 2013, the average wholesale price index rose by 8.17%. But the index for fodder grew by 19.64%, light diesel oil by 19.01%, farm electricity by 12.66% and fertilisers by 9.74%.
Fiscal deficit
A rise in fuel and fertiliser prices increases the cost of producing food, which in turn leads to a rise in food prices. This argument has formed the bedrock of government subsidies for fuel and fertiliser companies. But keeping fuel and fertiliser prices artificially low also leads to inflation. The subsidies come out of the government's pocket, worsening its finances. "It would not be incorrect to blame the ballooning fiscal deficit of the country today to be the prime reason for the stickiness in food inflation," argue Gulati and Saini.
They trace India’s current fiscal deficit crisis to the stimulus packages of 2008-'09. That year, an international recession forced governments across the world to increase their spending through stimulus packages to compensate for the lack of private spending. "While China spent lot of it on developing infrastructure, Indian fiscal package largely comprised of boosting consumption through outright doles (like farm loan waivers) or liberal increases in pay to organised workers under Sixth Pay Commission and expanded MGNREGA expenditures for rural workers. All this resulted in quickly boosting demand. But with several supply bottlenecks in place, particularly power, water, roads and railways, etc, very soon, ‘too much money was chasing too few goods’.”
India’s fiscal deficit crossed 8% of GDP. And the government made it worse, they argue, by adding the burden of fertiliser subsidies.
While a rollback of salary hikes for government employees might not be possible, economists say fuel and fertiliser subsidies can be brought down. In a piece written in October 2013, Ajay Chibber, director-general of the union government's Independent Evaluation Organisation, wrote, "Fertiliser and fuel subsidies must be brought down, but (the reduction) will have short-term adjustment costs before (it can) produce long-term benefits. For example, diesel price increases will have pass-through effects – a one per cent increase in diesel prices increases inflation by almost 0.1 per cent in the short term. But, as it reduces the fiscal deficit, the longer-term impact is lower inflation." Chibber hinted that the government might not be capable of "managing this trade-off before an election”.
The elections are over but the question remains: will even a government with a thumping majority be able to manage the trade-offs any better?
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