Food inflation: Policy failure hits public

Dr PK Vasudeva Will there be a respite in food inflation from next month onward? With the Rabi crop prospects looking good as of now the Government is hopeful and is keeping its fingers crossed. Admittedly, the common man has been hit hard with high food prices and the trend, if goes unchecked would not augur well for the Government this election year. In fact, inflation continues to be a grave cause of constant worry among the economists as its control has failed all measures taken so far. In an aggregate sense, inflation � as measured by the annual increase in the official wholesale price index (WPI) � has declined from 8.1 per cent in September 2012 to 6.8 per cent in February 2013. The downtrend is sharper when one looks at the price rise in non-food based manufactured goods or 'core' inflation, which has fallen from 5.7 to 3.8 per cent during this period. However, inflation in food articles has gone up from 8.1 to 11.4 per cent. The higher weight to food in the consumer price inflation, in turn, also explains why inflation based on the latter has risen from 9.7 to 10.9 per cent between September and February. What can be the policymaker's response to such a divergent trend � wherein 'core' inflation has eased, but inflation for the 'aam aadmi' has only worsened over the past six months? If the annual increase in the WPI for non-food manufactured products has dropped to below 4 per cent, from the 8 per cent levels during the October-December quarter of 2011, what it suggests is a significant reduction in pricing power with industry. In normal times, businesses would be able to raise prices for their products, at least to the extent of passing on production cost increases. But in the current environment � where double-digit inflation in fuel, electricity and wage-goods (primarily food) clearly point to cost push pressures � they simply haven't been able to do so. It means companies today are operating with shrinking margins, and their limited capacity to increase product prices affords enough room for the Reserve Bank of India (RBI) to further ease its policy rates. But that still leaves high food or consumer price inflation, which is what really affects the general public. Some of it has to do with the erratic monsoon that has impacted this year's kharif crop. But a larger share of the blame lies with policy failure, given that the main contributor to food inflation this time has been cereal prices. The fact that they are up by roughly a fifth over last year, despite public godowns holding nearly three times the necessary quantum of wheat and rice, reflects the Government's sheer lack of ability to undertake effective market intervention. Likewise, India has been grappling with its public finances since 1947 and is living within its means. However, every Budget since then has failed to produce a surplus so far. India borrows more heavily than typical big emerging economies and faces more periodic crises. Palaniappan Chidambaram is the latest to try to tame the fiscal beast. India's economy is a concern as the growth is running at about 5 per cent of the GDP, nearly half what it was once in 2009. The external deficit is at a record, while inflation remains stubbornly high. Last year India faced the threat of a downgrade of its credit rating to "junk" status. Thankfully, Chidambaram has shaken Government from its stupor. The UPA is to blame for the financial mess, having launched a pre-election spending spree in 2008 that continued. The fuel subsidies had doubled, to 2.4 per cent of GDP. The Central government's deficit has been 5-6.5 per cent of GDP. Add in spending by the States, and India's overall budget deficit has been running at a wild 8-10 per cent of GDP. When the economy was zipping along, the borrowing did not matter so much. For a while, the national debt actually fell as a proportion of GDP, despite high budget deficits (the ratio is about 70% today). But now, with slower growth, a debt spiral is a real risk. Borrowing has taken a heavy toll. It has fuelled inflation and a balance-of-payments gap, while crowding out the private investment in factories and infrastructure that India badly needs. The FM succeeded in capping the fiscal deficit at 5.2 per cent of GDP in FY13 (achieved by compressing budgeted expenditure by 4 per cent) and hopes to cap it at 4.8 per cent in FY14. Within budgeted expenditure, capital expenditure was significantly cut � by 18 per cent compared to the budgeted figure. After the Budget, however, the outlook is murky. Some still worry that Congress will try to spend its way to re-election. The last three General elections were preceded by splurges. Unfortunately, if a messy coalition comes to office, discipline may slip further. There is plenty of spending on politicians' crazy schemes. One sanitation project claims to have built 84m rural lavatories, about 60 per cent more than the 2011 census says exist. Meanwhile, fuel subsidies benefit the richest tenth of Indians seven times more than the poorest tenth. The solution, some hope, is "direct transfer" schemes that give welfare payments directly to the poor, lowering waste and graft. Yet vital though such reforms are, they will not yield enough cash to come close to balancing the books. Pressures to spend will always exist in areas such as education and infrastructure, rightly so. But revenues need to rise. A new report by the IMF compares India with other countries, adjusting for their wealth. It implies that Government revenues should be 25 per cent of GDP. At present they are just 18 per cent. How to raise revenues? Selling off more badly run State firms would help. But the tax system needs changing, too. Much of the economy remains out of sight of the taxman. A lot of the services sector is informal and cash-based. The property market is notorious for black money. Big firms in the formal economy pay a decent rate of tax, but many smaller businesses fall under the regime for personal tax, where compliance is poor. Surjit Bhalla, of Oxus Investments, reckons income-tax receipts are two-thirds below what they should be. Just 32m people, or 2.5 per cent of Indians, pay income tax. Complexity discourages people from joining the formal economy and makes cheating easier. To deal with this, the Central government has a Goods and Services Tax (GST) in the works. Its aim is to unify the rates of indirect tax across India and replace a tangle of local taxes. It should cut red tape and encourage more activity, such as construction, to enter the formal economy, says Vijay Kelkar, of the India Development Foundation. Chidambaram has postponed the GST till all the States give consensus. Yet these reforms have the potential to bring more of the economy into the tax net, raising revenues by several percentage points of GDP. Where then lies the elusive solution? � INFA