A quick glance at a financial newspaper armed with a little knowledge of economics, will give you the paradoxical nature of the Indian Economy. The world today, with the possible exception of China, is a global village. In Greece, the government is in tremendous debt; in America, even college graduates don’t have enough jobs. In such a world scenario, India is plagued with a high inflation rate. Inflation is usually a bitter consequence of a well-performing economy, where the masses have more liquidity to buy, than there are commodities to be bought. Are we then to believe that the reason for the high inflation rate in India is because of India’s superior growth rate in a global downturn, or should the cause be attributed to hidden factors, which are only talked about secretly in the lobbies of the power corridors in our country?
One of the most obvious culprits for this inflation surge could in fact be the Reserve Bank of India (RBI). During the financial downturn, when it was in vogue for governments to aid private industries, the RBI may have generated paper currency by simple printing paper currency. It would have thereby appeared that India was in fact unaffected by the slump, only to be caught in a conundrum two years later. If one were to believe that the RBI would have learned from the follies of 1991, this cause can be discounted, which thereby leads me to propose a second conjecture for the soaring inflation rates.
Petroleum prices in India have for long affected prices of commodities in the market, because they affect the secondary costs of production such as transport, energy costs during production, etc. While the fuel price of petrol has been heavily taxed by the government, the prices of diesel, kerosene and LPG have long been heavily subsidised by the government. As the government slowly succumbs to the growing debt on the exchequer, these subsidies are being cut. Over the years, the prices of other commodities, in spite of the low fuel prices, have been priced at the optimum price of the market; the subsidy borne by the exchequer being realised as profits by private industries. Now, as fuel prices rise, the secondary costs of production have increased and thus the prices of various essential commodities have increased.
Thus, while the purchasing power of the people has remained the same, the prices continue to soar. It is my belief therefore, that the cause for the high inflation rate in India is not the traditional mismatch of demand and supply, but because of the secondary involuntary rise in production costs. Due to the stickiness of the price of essential commodities, it will be a while before these prices will settle down at the market equilibrium. With the current strict RBI monetary policy, it is possible that by the time the inflation rate is lowered, the current growth rate could take a beating, which would take our country many years to recover from. An alternative relaxed monetary policy, could in fact lead to better growth rates, which would thereby raise the demand for goods at the current market price and thus lowering inflation rate in the country; hitting two birds with a single stone.