This is an archive article published on February 16, 2022

Opinion If inflation remains elevated, RBI will be forced to undertake sharper monetary policy adjustments

If inflation remains elevated, at levels higher than expected, it increases the risk of RBI being behind the curve, and raises the odds of having to undertake sharper policy adjustments.

This is the first time since June last year that inflation has come in above the upper limit, although marginally, of the inflation targeting framework of the RBI.

By: Editorial

February 16, 2022 09:44 AM IST First published on: Feb 16, 2022 at 03:05 AM IST

On Monday, data released by the National Statistical Office (NSO) showed that retail inflation, as measured by the consumer price index (CPI), rose to a seven month high of 6.01 per cent in January, up from 5.66 per cent in December. This is the first time since June last year that inflation has come in above the upper limit, although marginally, of the inflation targeting framework of the RBI. Considering that the RBI expects inflation to average 5.7 per cent in the fourth quarter (January-March), CPI will now have to moderate considerably in the next two months to be in line with the target.

The disaggregated data shows that food inflation rose to 5.43 per cent in January, up from 4.05 per cent in December. Food inflation has, in fact, risen considerably in the recent past — in October last year, the consumer food price index was at 0.85 per cent. In the last month items such as cereals, meat and fish, milk products, vegetables witnessed a rise. Worryingly, core inflation, which excludes the highly volatile food and fuel prices, has continued to remain elevated with price pressures being witnessed across categories such as household goods and services, and clothing and footwear. This is perhaps indicative of a pass-through of higher input costs — the wholesale price index has remained in double digits for the last 10 months.

However, as outlined in the recently held monetary policy committee (MPC) meeting, the RBI expects retail inflation to peak in the fourth quarter of this fiscal year, trending downwards thereafter, creating space for its continued accommodative stance. It has projected CPI at 4.5 per cent in 2022-23, with inflation averaging just under 5 per cent in the first half of the year, followed by 4.1 per cent in the second half. However, there are several upside risks to the MPC’s projection of the trajectory of inflation. First and foremost, crude oil prices. Brent crude oil is currently trading at upwards of $90 per barrel. Higher crude oil prices will likely be reflected in higher prices at the pumps, passed on to the consumers, once the state elections are concluded. Unless the government offsets the price rise with cuts in fuel taxes. Second, with restrictions on economic activities being eased, contact-intensive services may also see price pressures. Third, as domestic demand strengthens, the pass-through of higher input prices to consumers may gain traction. Fourth, with inflation in developed countries also rising, there is the risk of importing high inflation. If inflation remains elevated, at levels higher than expected, it increases the risk of RBI being behind the curve, and raises the odds of having to undertake sharper policy adjustments.

This editorial first appeared in the print edition on February 16, 2022 under the title ‘Price to pay’.