India’s Inflation Puzzle Shaping The Economy’s Fate

Just when everyone thought the ghosts of rising food inflation had finally left the shores, the latest numbers have again put a break on the economy’s growth trajectory. With retail inflation reaching 5.49 per cent in September from 3.65 per cent in August and wholesale inflation rising to 1.84 per cent in September from 1.31 per cent in August, food inflation continues to haunt the Indian economy.

The Reserve Bank of India (RBI), in its latest monetary policy committee (MPC) meeting, decided to keep the policy repo rate unchanged at 6.5 per cent. The MPC noted that the moderation in headline inflation is likely to remain elevated in the near term due to adverse base effects. It also noted that domestic growth has sustained its momentum, with private consumption and investment growing in tandem.

After the softening in retail inflation in the past two months and the outpacing of the urban growth by the rural growth on demand parameters, it looked like the long battle with food inflation was finally coming to an end. Now, after the uptick in inflation, it has become important to understand what led to the uptick and what the future holds in this regard.

The Inflation Is Rising, Again

The official inflation numbers that came in on 14 October did not bring much great news as the consumer price index (CPI) - based inflation rate for September 2024 reached 5.49 per cent, reflecting an uptick primarily due to higher food prices. The inflation rate for rural and urban areas was 5.87 per cent and 5.05 per cent, respectively.

The wholesale price index (WPI) data for September 2024 recorded an annual inflation rate of 1.84 per cent, based on the 2011-12 base year.

The Uptick In Food Inflation

According to the Ministry of Commerce and Industry, the positive rate of Inflation is attributed primarily to higher prices in food articles, food products and manufacturing sectors including motor vehicles, trailers, machinery and equipment.

The Consumer Food Price Index (CFPI) saw a significant year-on-year (YoY) rise, with food inflation provisionally recorded at 9.24 per cent for September. Rural and urban food inflation stood at 9.08 per cent and 9.56 per cent, respectively.

Factors Affecting Food Prices

While the country has received ample rainfall in the current year and is expected to reap the benefits of it, the recent surge in the costs of food items has posed a serious question- what is driving this uptick? What are the factors that lead to a change in food prices?

“Food prices are subject to climate hazards (including delayed or excessive monsoons), global supply chain disruptions, and domestic logistical challenges. Furthermore, demand pressures may escalate as urban consumption intensifies and global commodity costs grow,” stated Bharath Supra- Associate Professor and Program Chairperson – SBM, NMIMS.

The Curious Case Of Domestic Growth

Even though the recent surge in inflation numbers has raised concerns, domestic growth has sustained its momentum, with private consumption and investment growing in tandem. As per the RBI Governor Shaktikanta Das, the high-frequency indicators available so far suggest that domestic economic activity continues to be steady.

The Governor stated, “The main components from the supply side – agriculture, manufacturing and services – remain resilient. Agricultural growth has been supported by above normal south-west monsoon rainfall and better kharif sowing.”

On the demand side, rural demand is outpacing urban demand, and government consumption is improving. Investment activity remains buoyant, with government capex recovering after a slow start in the first quarter.

Will The Surge In Consumption Sustain?

Due to the increased disposable income and healthy monsoon, the festive season has witnessed an increased demand and consumption from the rural markets as well. The rise in demand has proved beneficial for the economy, but the question remains whether the surge in demand will keep up once the festive season is over.

“The surge in demand is expected to sustain after the current festive season as well, with anticipated improvement in rural as well other domestic income, riding on the better prospects due to more than normal monsoon, reduction in supply side constraints and overall economic prosperity. Indicators are that the next rabi crops are also expected to see better productivity due to improved moisture in the soil leading to a further boost in rural demand,” stated Jyoti Prakash Gadia, Managing Director at Resurgent India.

The Road Ahead for Food Inflation

Even though the recent uptick in food inflation has raised concerns, there still lies optimism within the industry that the inflation will soften in the coming months, driven by factors such as healthy rainfall and increased spending driving the demand.

“With tapering of the overall inflation and better monsoon productivity, the food inflation is expected to show a softening trend barring unforeseen circumstances of temporary aberrations. We are however still not totally out of the woods as the volatility in crude oil prices and some commodities may prove to be a spoil-sport due to the continued conflict in the Middle East,” added Gadia.

Rural areas are particularly sensitive to food inflation. As food prices level off, people in rural places have more money to spend, which leads to more spending. Farmers in rural areas are likely to make more money because of good food returns during the kharif planting season.

“Broadly, falling inflation means lower prices for necessities, which frees up money for spending on other things. Lower inflation in food and fuel prices could lead to more spending on items, housing, and services in cities. This is a big reason why domestic spending growth has been stable, which in turn makes the economy strong overall,” added Supra.

The Possibility Of Rate Cut

The RBI MPC decided to keep the policy rates unchanged but shifted its stance to ‘neutral’ from ‘withdrawal of accommodation’ which has signalled a possible rate cut in the next MPC meeting. However, the experts believe that the road to rate cut goes through the performance of inflation during the period.

“While neutral stance suggests a cautious approach to future monetary policy. Given the ongoing geopolitical tensions and global economic uncertainties, the RBI's decision to prioritise inflation control is prudent,” stated Nishant Srivastava, Chief Executive Officer (CEO), Torus Wealth.

The festive season would also be a crucial factor in deciding the possibility of any downward revision to the economic growth forecast. The price movements during the festive months will be critical.

“We believe that a December rate would hinge upon multiple factors aligning including the trajectory of food inflation, the global economic and monetary policy setting and major commodity prices including crude oil and metal,” stated Manish Chowdhury, Head of Research, StoxBox.

While it has become evident that the apex bank has not taken the quicker route towards the rate cuts as it has decided to stay the course, it has also become clearer that the RBI’s struggles with the rising food inflation is an ongoing battle. It would be interesting to see where the inflation trajectory takes the RBI when it sits down to assess India’s growth story in its next MPC meeting.