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The Indian consumer will have to spend more for a little longer

Dipti Deshpande writes: Pressure on prices of agricultural commodities will take time to soften. This should be after the Russia-Ukraine conflict de-escalates and the impact gradually fades away

Written by Dipti Deshpande |
Updated: May 27, 2022 8:39:04 am
Rising food inflation hurts consumers a lot more than inflation in other commodities since households do not have much discretion in altering food consumption.

The drivers of current inflation are exogenous, but their second-round effects, as domestic demand improves and feeds into inflation expectations, are becoming a source of concern. Research has shown that the frequency of purchase, rather than the share of expenditure, shapes inflation-related expectations of consumers.

Take food, for example. Not only is around 40 per cent of overall consumer spending on food, its purchase frequency is also higher. Thus rising prices have a stickier impact on inflation expectations.

Already, food inflation, at 6 per cent on average in the past three years, is significantly higher than the pre-pandemic five-year average of 3.5 per cent. It has risen in recent months, making it difficult for monetary policy to anchor inflation expectations.

So why is food inflation surging? There are three reasons: One, a surge in transportation costs; two, rising cost of production; and three, elevated global food prices. The first two are already being passed on to retail prices. The Russia-Ukraine war is affecting everything, even food prices in a nation where most of what is consumed is produced locally. In April, the consumer price index-based inflation for food had reached 8.4 per cent. While that’s the headline, inflation is also broad-based within the category. Initially, it started picking up for imported commodities — global food prices have been surging since the war began, with edible oils and cereals rising the most. But now, domestically produced items are getting caught in the price fire. Crucially, there is little monetary and fiscal policies can do to soften the primary exogenous blow in the short-term.

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For instance, a sharp rise in transportation costs has pushed up retail prices of agricultural commodities. Vegetable inflation surged the most in April, led by both a high base and sequential increase in prices. Higher freight rates for transport would have a huge role to play in driving up retail prices. As per CRISIL Research’s CRISFrex index, freight costs for agricultural products rose more than 20 per cent on-year as of April, suggesting transporters have been passing on higher diesel prices by raising freight rates.

Similarly, other than vegetables, inflation has also been firming up in other domestically produced commodities such as wheat and products, coarse cereals, and meat. Apart from a low base, there is a sequential price rise in these components. In many of these, food production costs have risen, driven by higher diesel, fertiliser, pesticides and also animal feed prices.

Recent months have also seen a narrowing of the gap between wholesale and retail food inflation, suggesting a higher pass-through of input costs. The heat wave has only added to the woes.

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Rising food inflation hurts consumers a lot more than inflation in other commodities since households do not have much discretion in altering food consumption. The consequences are more adverse for certain consumer segments. The rural population spends a higher share (around 47 per cent) than the urban (roughly 30 per cent) on food. Similarly, the bottom 20 per cent shell out a higher share (60 per cent) on food consumption. It is these segments that are facing the brunt of high food inflation for the past three years. Hence, policy will have to relieve the pressure on food inflation wherever possible.

The process has started. Monetary policy made the first move by hiking the repo rate, the cash reserve ratio and gradually winding down the easy liquidity situation. We expect the RBI to raise repo rates by another 75-100 basis points in the rest of this fiscal.

More recently, fiscal policy, too, has stepped up efforts to alleviate the burden of consumers. This involves a reduction in excise duties on petrol and diesel, an increase in fertiliser and cooking gas subsidies, and allowing duty-free imports of edible oils. Additional steps such as an extension of the Pradhan Mantri Garib Kalyan Anna Yojana beyond September may be needed.

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The pressure on prices of agricultural commodities will take time to soften. This should be after the Russia-Ukraine conflict de-escalates and the impact gradually fades away. Until then, the Indian consumer will have to shell out more.

This column first appeared in the print edition on May 27, 2022, under the title ‘Note to the consumer’. The writer is a Principal Economist, CRISIL Ltd.

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First published on: 27-05-2022 at 04:01:55 am
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