Low inflation blues may taper off in the second half of FY18

Fall in prices in May worrisome for farmers because this may discourage them to grow pulses

Retail price inflation, whose rate fell to the lowest level in May in accordance with the new series, has an upside risk in the second half of the financial year owing to a likely revision in house rent allowances for government employees and an expected rise in the fiscal deficit of the states that are giving a farm debt waiver.

It may touch 4-5.5 per cent in those six months.

The reduction of the consumer price index (CPI) rate to 2.18 per cent in May, close to the floor agreed upon by the government and RBI, may not be as worrisome as it seems currently. The rate was close to 3 per cent in April.

However, the food aspect of the story is worrisome for farmers because this may discourage them to grow pulses and vegetables, which saw a fall in prices in May, and switch to cereals, for which the government machinery for procurement is efficient, say economists. Food prices turned deflationary with the index falling by 1.05 per cent. Among food items, vegetables and pulses saw double-digit deflation, with the latter witnessing close to a 20 per cent fall in prices.  “The recent trend of deflation in certain food items such as vegetables and pulses is worrisome from the point of view of assuring remunerative prices for farmers,” said Aditi Nayar, principal economist, ICRA.

The dip in prices might dissuade farmers from sowing such crops in the upcoming kharif season, she emphasised. With better moisture availability and if the monsoon is normal as expected, farmers may prefer to sow cereals such as paddy instead of pulses, according to her. The sowing pattern in the kharif season would be crucial in gauging whether the prevailing low prices of pulses would sustain, she said. 

Though the government provides minimum support prices (MSP) for pulses, its procurement machinery is not as efficient as it is for cereals. For instance, only around 20,000 tonnes of pulses was procured in 2016-17, constituting less than 1 per cent of the 22 million tonnes produced.  Food deflation impacted farmers negatively, said Madan Sabnavis, chief economist, CARE Ratings.

Minimum inflation has to be there to sustain farmers’ interests in cultivating these crops, according to Sabnavis. A marginal upside could be seen from the strike by farm producers in Maharashtra over the past week, says a note by Yes Bank. However, it says that the all-India high-frequency data suggest that the impact may have been limited, with June prices continuing to track below seasonal trends.

Nayar said the trajectory for food and headline inflation was expected to be relatively benign in the first half of the fiscal year, and that might soften inflationary expectations. 

The positive base effect for food inflation is expected to continue till July, says Nayar, pointing out that with pulses prices at their peak, the CPI rate had crossed the threshold of 6 per cent in July 2016.

A reversal of the favourable base effect could result in the food and headline inflation rates rising sharply, reaching 4-5.5 per cent during the second half of the fiscal year, according to her. Sabnavis says core inflation, basically representing inflation in manufactured and services items, remained sticky at around 4.5 per cent in the past few months, but may go up because of the implementation of the pay commission's recommendations on allowances, particularly house rent, and the widening fiscal deficit of those state governments which go for a farm debt waiver. 

He says core inflation could rise up to 5 per cent in the second half of the current financial year, but would not go below 4.4 per cent.  The monetary policy committee has the mandate to contain the CPI rate in the range 2-6 per cent. If the rate stays out of this range in three consecutive quarters, the RBI will have to do some explaining.