Curbing inflation - too little, too late!

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Sushma Ramachandran | 27 Jun, 2008
With inflation touching a 14-year high of 11.42 percent, the big question being asked now is: Did the United Progressive Alliance (UPA) government do too little too late? Or was there just no way to avert the price crisis, given the impact of global crude oil prices?

While Finance Minister P. Chidambaram insists there was no policy failure on the part of the government, there is a growing feeling that the Prime Minister Manmohan Singh government could have taken more steps and at an earlier stage to curb the runaway inflation now afflicting the economy.

Even Planning Commission Deputy Chairman Montek Ahluwalia conceded in a television interview that action could have started earlier in the year. The Reserve Bank of India (RBI) had been warning about the impact of soaring world oil prices since last year but began tightening monetary policy only in recent months. Clearly, it was trying to ensure that nothing was done to affect growth, which logged a commendable nine percent during in 2007-8.

The finance minister, however, is certainly not off the mark when he says inflation has not just hit India but the rest of the world as well. In fact, global oil prices have pushed inflation levels to 8.5 percent in China, 19.3 percent in Pakistan and 10.4 percent in Indonesia. Even an oil exporting countries like Venezuela faced a daunting 29.3 percent annual price rise in April, while major oil producer Russia has had to tackle 15 percent inflation.

As for India, the central bank's warnings were timely as world oil prices did not abate in the backdrop of several analysts warning that the market could hit the $100 per barrel mark. Ultimately, it did cross this Rubicon and is now in the region of $130-$140 per barrel - a price band that looked unlikely just a year ago. By the time it crossed the $100 mark, it was clear the impact of high world oil prices would reach out and touch economies all over the world in a matter of months.

But with elections in India under a year away, the political leadership was in no mood to allow any hike in prices of key petroleum products like diesel and petrol. As a result, the usual dithering that takes place before any hike is allowed in fuel prices ran its usual course.

Chidambaram and Petroleum Minister Murli Deora had confabulations and, as usual, the finance minister declined to cut duties, while both agreed that oil companies would collapse unless prices were raised. Again, as usual, it was left to the prime minister to mediate between his two cabinet colleagues before any decision was taken.

The new elements in this drama, which has been played out many times in the past few years, were that oil prices were soaring heavenwards and inflation had risen steeply to around seven-eight percent. The untenable situation of oil companies had to be dealt with as otherwise they would have literally run out of funds to import oil.

So in spite of inflationary pressures, the government had no option left but to raise fuel prices despite the vocal protests of the Left parties and internal fears of the Congress party and its allies over the impact on elections.

The fact is that both the UPA now and the National Democratic Alliance (NDA) coalition in the past have resisted till the last moment before raising oil product prices. Both also sought to formulate innovative ways to ensure that the extent of price hike is kept to the minimum.

This has included the creation of oil bonds as well as spreading the burden to the upstream oil companies like the Oil and Natural Gas Corp (ONGC). But had the government allowed a gradual increase in domestic prices of oil products over the last two years, it may not have been forced into hiking prices as sharply at one go recently. This, in turn, may not have pushed inflation into double-digit figures.

Tightening of monetary policy also seems to have begun late in the day. But there is no doubt that the caution exercised by the RBI was aimed at preventing any curbs on the high growth path. The latest steps taken by the RBI indicate that it is now going whole hog to curb inflation. But this is bound to affect economic growth, which could end up at around 7.5-8 percent this fiscal.

On the food front, the government could have cut import duties earlier to prevent prices of edible oils and pulses from spiralling out of control. The decision to ban export of agricultural commodities, on the other hand, ensured sufficient food stocks were available within the country to meet demand.

Food prices are still rising, a phenomenon being attributed by the finance minister to the fact that commodity prices have got linked to oil prices because of bio-fuels. The global shift of acreage to bio-fuels has caused a shortage of farm commodities, which has, in turn, sparked worldwide rise in food prices.

There are, however, other factors that have contributed to inflationary expectations. These include the huge public investments now being made for the rural employment programmes, rising subsidies, and the massive loan waiver for farmers. The subsidies especially in the area of food need to be made more targeted at the real beneficiaries.

Currently, enormous sums are being poured into subsidies but the real benefits do not accrue to those who need them. Economic reforms needed to have been implemented in agriculture, but the UPA failed to go ahead for fear of the Left backing out of the coalition.

In fact, reforms have virtually been off the agenda of this government because of Left pressures. Unfortunately, with inflation ruling at double-digit levels, the government cannot do much at this stage. It should have become proactive a little earlier in the day rather than now trying to douse the flames of inflation by frantic fire-fighting.

* Sushma Ramachandran is an economic and corporate analyst