On Inflation its Causes and suggestions

I had  stated in my earlier report   that India’s has one of the largest  arable land  which is second only to that of the United States, its economy is one of the fastest growing in the world, and its industrial innovation is legendary. India ranks second worldwide in farm output.  Agriculture and allied sectors like forestry, logging and fishing accounted for 15.7% of the GDP in 2009–10, employed 52.1% of the total workforce, and despite a steady decline of its share in the GDP, is still the largest economic sector and a significant piece of the overall socio-economic development of India. But when it comes to agriculture, its output lags far behind potential.

There can be no Green Revolution without adequate irrigation and fertilizer, which is consistently deteriorating due to the faulty policies of the Government. The Current Budget has given nothing to the Agriculture and there is little emphasis in this direction. In fact the fertilizer subsidy for the year 2011-12 has been pegged down (at Rs. 49,998 crores), which is lower than the revised estimates for 2010-011 (Rs. 54,976 Crores).

 The same is here reflected in the RBI report.

  Man Mohan Singh is following the Expenditure method of progress and hence pumping a lot of money in the Indian Economy by way of Deficit financing which is revealed hereby by RBI report. I am hereby elaborating the GDP calculation data for ready reference:-

GDP can be determined in three ways, all of which should, in principle, give the same result. They are the product (or output) approach, the income approach, and the expenditure approach.

The most direct of the three is the product approach, which sums the outputs of every class of enterprise to arrive at the total. The expenditure approach works on the principle that all of the product must be bought by somebody, therefore the value of the total product must be equal to people's total expenditures in buying things. The income approach works on the principle that the incomes of the productive factors ("producers," colloquially) must be equal to the value of their product, and determines GDP by finding the sum of all producers' incomes.

Example: the expenditure method:

GDP = private consumption + gross investment + government spending + (exports − imports), or

Note: "Gross" means that GDP measures production regardless of the various uses to which that production can be put. Production can be used for immediate consumption, for investment in new fixed assets or inventories, or for replacing depreciated fixed assets. "Domestic" means that GDP measures production that takes place within the country's borders. In the expenditure-method equation given above, the exports-minus-imports term is necessary in order to null out expenditures on things not produced in the country (imports) and add in things produced but not sold in the country (exports).

Economists (since Keynes) have preferred to split the general consumption term into two parts; private consumption, and public sector (or government) spending. Two advantages of dividing total consumption this way in theoretical macroeconomics are:

•           Private consumption is a central concern of welfare economics. The private investment and trade portions of the economy are ultimately directed (in mainstream economic models) to increases in long-term private consumption.

•           If separated from endogenous private consumption, government consumption can be treated as exogenous, so that different government spending levels can be considered within a meaningful macroeconomic framework.

RESERVE BANK OF INDIA

First Quarter Review of Monetary Policy 2011-12

17. Inflation continues to be the dominant macroeconomic concern. The headline WPI inflation rate was 9.7 per cent in April 2011. The provisional inflation figure was 9.1 per cent in May 2011 and 9.4 per cent in June. Given the recent pattern, these numbers these numbers are likely to be revised upwards. Thus, the headline WPI inflation rate for Q1 of

2011-12 remained stubbornly close to double digits and inflationary pressures continued to remain broad-based. Both the level and the persistence of WPI inflation are a cause for concern.

25. The Reserve Bank’s estimates show that the total flow of financial resources from banks, domestic  non-bank and external sources to the commercial sector during Q1 of 2011-12 was lower at ` 2,40,000 crore as compared with ` 2,63,000 crore during the corresponding period of last year.

30. During April-May 2011, the Central Government’s revenue deficit and fiscal deficit turned out to be higher than the levels during the corresponding period of the previous year reflecting lower revenue receipts and higher expenditure. Up to July 18, 2011, the Central Government completed 34 per cent of its budgeted net market borrowing programme, as compared with 37 per cent in the corresponding period of last year.

38. It is important to recognise that in the absence of appropriate actions for addressing supply bottlenecks, especially in food and infrastructure, questions about the ability of the economy to sustain the current growth rate without significant inflationary pressures come to the fore. The economy's ability to grow rapidly for any length of time without provoking inflation is dependent on implementing policies, with corresponding resource allocations, which will allow the supply of various products and services to keep pace with demand.

40. First, prices of petroleum products such as petrol, diesel, kerosene and LPG were raised in May/June 2011. The increase in administered petroleum product prices in June 2011 will add about 70 basis points to WPI inflation as a direct impact. In addition, there will be an indirect impact which will play out during the course of the year. There will be further upward pressure on inflation due to another one-off factor. The sharp upward revision in domestic crude prices under the minerals category, with a weight of 0.9 per cent in WPI, added about 40 bps to WPI inflation in April 2011. A similar impact may be

felt in March 2012 unless crude prices moderate significantly.

41. Second, minimum support prices (MSPs) for some agricultural commodities, particularly rice and pulses, were increased significantly. This is likely to exert upward pressure on food inflation even if the harvest is good.

42. Third, non-food manufacturing inflation persists at elevated levels, reflecting underlying demand pressures. While early corporate results for Q1 of 2011-12 indicate some moderation in margins, suggesting reduced pricing power, the pass-through of higher commodity prices into more generalized inflation remains significant.

43. Going forward, the inflation outlook will be shaped by the following factors. First, it will depend on the overall performance of the south-west monsoon. Even if there is no major deficiency at the aggregate level, an appropriate spatial and temporal distribution of rainfall during the whole season is crucial. As price pressures in respect of protein-rich

items persist, any shortfall in rainfall or its pattern could pose significant risks to food inflation.

47. Keeping in view the domestic demand-supply balance, the global trends in commodity prices and the likely demand scenario, the baseline projection for WPI            inflation for March 2012 is revised upward from 6.0 per cent with an upside bias, as indicated in the May 3 Policy Statement, to 7.0 per cent (Chart 2). As indicated in the May 3 Policy Statement, inflation is expected to remain at an elevated level for a few more months, before moderating towards the later part of the year.

Risk Factor

51  (iv) The Central Government budgeted a fiscal deficit of 4.6 per cent of GDP for 2011-12. Subsequent developments have made the achievement of this target much more of a challenge. On the expenditure side, the subsidy burden will, in all likelihood, overshoot the budgeted amount in 2011-12 significantly, despite the recent revision in petroleum product prices. On the revenue side, while the tax cuts announced in June 2011, as part of the upward price adjustment of petroleum products, will primarily help in

bringing down the magnitude of under-recoveries of oil marketing companies (OMCs), the revenue loss to the Central Government from such tax cuts (about 0.3 per cent of DP) will impact both the fiscal and revenue deficits. The large fiscal deficit has been a key source of demand pressures. Fiscal consolidation is, therefore, critical to managing      inflation. While meeting quantitative targets, the Government also needs to focus on the quality of expenditure to sustain the fiscal consolidation process, which, in turn, will help contain aggregate demand and raise potential output.

CRISIL Research, India’s leading Rating, Research, Risk and policy Advisory Company reports  on RBI :- The Reserve Bank of India (RBI), in its first quarter review of monetary policy 2011-12, continued with its aggressive anti-inflationary stance. It raised the repo rate by a higher than-expected 50 basis points (bps) to 8.0 per cent. This is the eleventh successive increase in the policy rate since March 2010. Consequently, the reverse repo rate and marginal standing facility (MSF) rate have been revised up to 7.0 and 9.0 per cent, respectively. This rate increase, which came in the midst of slowing industrial growth, is a clear signal from the RBI that it remains committed to inflation control and is willing to accept a slowdown in economic growth in the short run. The central bank has also taken into account the elevated inflationary expectations in food prices, and its resultant effect on wages. In addition, domestic fuel prices have been only partly aligned to global crude oil prices, which have risen sharply over the last one year. However, despite this rate increase, inflation will continue to persist above the RBI’s comfort zone throughout 2011-12. The RBI has revised upwards its March 2012 WPI (Wholesale Price Index) inflation projection to 7 per cent from the earlier projection of 6 per cent with an upward bias.

GDP growth to moderate as cumulative interest rate hikes begin to impact

Industrial growth fell to 5.6 per cent in May 2011 from 8.5 per cent in the same month last  year, mainly due to poor performance of the manufacturing and mining sectors. IIP (Index of Industrial Production) data for April 2011 has been revised downward to 5.8 per cent from 6.3 per cent reported earlier. This indicates sluggish industrial growth in the economy. Capital goods also grew by a mere 5.9 per cent in May as compared to 7.3 per cent(revised downward from the earlier estimate of 14.5 per cent) in the previous month. With the capital goods’ growth slowing to 6.6 per cent in the first two months of 2011-12

compared to 25.6 per cent in the same period last year, investment activity in the economy has clearly slowed down. As a result, capital goods production is expected to remain sluggish in the coming months. However, while private consumption growth has

moderated since the third quarter of 2010-11, it remained robust at around 8 per cent in

the fourth quarter of 2010-11. Overall, GDP growth would moderate in 2011-12 to 7.7-8.0 per cent, assuming a normal monsoon, compared to 8.5 per cent in 2010-11. It is critical that demand side pressures are reigned in to control core inflation.

Inflation remains stubbornly above 9 per cent Inflation reached 9.4 per cent in June 2011 as compared to 9.1 per cent in May 2011. Also, inflation for April 2011 has been revised to 9.7 per cent from 8.7 per cent reported earlier. The push in inflation in June came from manufactured goods and food items. Overall, food inflation (primary and manufacturing) in June rose to 8.4 per cent as compared to 8.0 per cent in the previous month. Fuel inflation during the month rose to 12.8 per cent following an increase in petrol and diesel prices. Manufacturing inflation in June remained high, rising to 7.9 per cent from 7.7 per cent in the previous month. Core inflation (non-food manufacturing inflation) in June continued to be firm as well at 7.8 per cent, same as in the previous month, indicating firm demand. If consumption remains robust, an increase in the cost of production due to the fuel price rise will be passed on by producers to consumers thereby further raising manufacturing inflation. In this situation, the RBI will continue with its anti-inflationary stance.

In view of the elevated inflationary pressures, CRISIL Research has raised its average

WPI inflation forecast for 2011-12 by 50 bps to 8.0-8.5 per cent.