Inflation kept MPC occupied in 2022, but may not hurt growth for now

Economists and businesses await to see what will be committee's stance in 2023

After keeping the Reserve Bank of India's (RBI) monetary policy committee (MPC) on its toes for most part of the year, retail price inflation rate may not be such a worry for economic growth in 2023.

Hope comes from the consumer price index (CPI)-based inflation rate falling below the RBI's upper tolerance level of six per cent in November, and also by the behaviour of the wholesale price index (WPI)-based rate of price rise.

One has to see if CPI inflation rate remains below six per cent beyond November or not, but WPI inflation does indicate it would be so if no shocks happen.

WPI inflation rate fell to a 21-month low of 5.85 per cent in November.

Inflation indicators

"WPI is the lead indicator. WPI has come down substantially. That will also be feeding into CPI with a lag. That had happened in earlier part of the year too when WPI stayed in double digits for long, CPI went above six per cent. Now, WPI has come down very sharply and that will bring down CPI too. So, I am not worried about inflation as of now," said Pronab Sen, the former chief statistician.

He added a caveat that shocks jacking up commodity prices may alter the scenario. Covid-19 has already raised the prices of active pharma ingredients (APIs) which India imports from China.

Why is Sen confident of CPI falling to a comfortable range next year when the core inflation, which takes out food and fuel, remains sticky over six per cent? Core CPI inflation has been over six per cent since June. It fell from 6.5 per cent in October, but remained elevated at 6.3 per cent in November.

"Transmission from headline to core is a process; if you see a decline in headline inflation, it is largely due to a decline in input prices. It will have a lagged impact on core inflation," said N R Bhanumurthy, vice chancellor of Dr B R Ambedkar School of Economics.

However, ICRA’s chief economist Aditi Nayar said given the pending pass-through of higher input costs by producers and sustained robust demand for services, core inflation is likely to remain elevated in the remainder of FY '23, notwithstanding the recent correction in prices of some global commodities.

Bhanumurthy said the kind of inflation that was seen—higher than RBI's threshold—for most part of the current calendar year was largely due to international inflationary pressures.

"In the absence of international price pressure, domestic factors will influence inflation, going forward. Domestic factors, in my view, need not be inflationary except if there are shocks like rainfall shortage etc. On the other hand, even if [a] global slowdown happens, domestic factors will see that inflation is somewhere between four and five per cent in the coming months," he said.

CPI inflation fell below six per cent in November, but not before the RBI wrote a letter to the government explaining the reasons behind its failure to keep the rate of price rise within its mandate. The MPC is mandated to keep the rate in the range of two-six per cent. If the rate remains outside this range for three consecutive quarters, the central bank has to explain the reasons to the government for failing in its mandate.

CPI inflation was above six per cent from January to October or ten consecutive months. The government did not disclose the contents of the letter. In Parliament, junior finance minister Pankaj Chaudhary cited the RBI Act of 1934 for not making the letter public.

Cereal trouble

Even as retail price food inflation fell to an 11-month low of 4.67 per cent in November, the rate of price rise in cereals increased to 12.96 per cent in the month from 12.08 per cent in October.

The retail inflation rate in wheat rose to 19.67 per cent in November from 17.64 per cent in October.

At the beginning of the year, it was just 5.1 per cent and rose to 9.59 per cent at the beginning of the current financial year. From there, it more than doubled in November.

Rice inflation rate increased to 10.51 per cent in November from 10.21 per cent in October. It was just 2.8 per cent in January and 3.96 per cent in April.

Wheat and rice inflation rising may disturb the budget of the poor, but the government has extended the free foodgrain scheme for 800 million people by three months till December 31.

A shortage of wheat and maize has also led to supply-side cuts in food that have jacked up prices of milk. Retail price inflation in milk rose to 8.23 in November, the highest in 2022, from 7.69 per cent in October. Lumpy skin disease in cattle also contributed to expensive milk.

A report by ICICI Securities said nationwide wholesale milk prices increased 10.2 per cent year-on-year in December 2022 against a marginal rise in general month-on-month wholesale prices at 0.6 per cent.

MPC's action

With most experts saying that inflation may not be a concern for economic growth, the moot question arises as to what will be MPC's stance. Will it now reverse its stance and cut repo to promote growth?

"Not yet. At the moment CPI inflation is just below the repo rate which is 6.25 per cent. The real repo rate is positive. My personal belief is when the inflation rate comes down around 4.5 per cent that is the time when the repo rate should be brought down fairly quickly. I would give it another quarter at least," Sen said.

Bhanumurthy said inflation volatility should not be reflected in the policy rate volatility. "It should be the other way round. The policy rate smoothening should lead to inflation smoothening. So the policy rate has to be smoothening. One can say that we are very near to the peak rate cycle. Maybe there is one more policy hike. After that you may see a prolonged pause. Later, it may come down," he said.

Nayar believed that the MPC’s decision on the repo rate in February 2023 is likely to be data dependent, taking a cue from domestic inflation-growth dynamics, including the contours of the Union Budget for FY24.

"How much the CPI inflation is expected to ease further in Q4 FY'23 and Q1 FY'24, will influence whether the MPC pauses in February 2023," she said.