Almost everybody claims that they are worried about Inflation. It is likely to be a major issue in the forthcoming election in 2014. But, there are not many satisfactory explanation for where the demand is coming from, especially Food inflation.
1. There is an increase in Money that people are earning and money that people are accessing by assuming new debts or through remittances.
2. Wages are up, so is the Minimum Support Price (MSP) for various agricultural commodity prices is up so there is some increase in inflation that is bound to increase - everybody knows that.
3. Oil prices are up - everybody knows that.
4. High levels of consumer lending by the banks.
5. What may be missed is that over the past few years there is a huge amount of money that is going directly into the hands of lower half of the population, if not lower quartile. Undoubtedly, one of the important items that the Lower Middle Classes and the poor do is to spend a lion's share of their earning on Daily Household Expenditure and items like housing, debt repayment and education. A large part of their daily household expenditure is going into food. Where are people getting so much money to spend ever increasing amounts on food:
(a) There is a large number of money flowing in through Remittances from other countries - nearly $60 billion (at present value: Rs.360,000 crores) flowing into India through formal channels. Assuming that at last another US$10 billion comes through hawala route (i think it could be double that). Hence, the total money flowing in through remittances could be in the region of Rs.500,000 crores annually. There is a major correlation between increasing remittances and rising Food Inflation since most of the money goes into funding expenditure related to daily needs, education or housing. There are whole villages where large sections live on remittances.
(b) Internal Remittances - unknown amount but since that is a consequence of rising wages, we know it is already factored into present day thinking.
(c) Borrowings by the lower middle classes and those below poverty line: There is a sharp jump in lending through SHGs and MFIs. Interestingly, both these have jumped over the past three years - years when inflation, especially food inflation has gone up. MFIs have ramped up lending over the past two years in other parts of India. Assuming that together (govt supported SHGs and MFIs) have lent Rs.50,000 crores it is quite high. Our studies indicate that most of these borrowings go into consumption loans.
(d) Add to the above list loans by Gold Loan companies: wheret 30-40% of the gold loans may be to the poor earning less than Rs.100,000 (about US$1500) a year. Assuming that they have combined portfolio of Rs.100,000 crores and 40% is to the poor, then it would add another 40,000 crores.
(e) Money from informal lenders - we have no idea about how much is going to the lower sections. So best leave it.
(f) Add to this some welfare programmes like NREGA which is again directly flowing into the hands of the poor, who are most likely to be spending the monies within a week of receiving it.
(g) Add to this other borrowings by the bottom 50% of the populace - a lot of which may be going back to purchase food and other daily needs.
To these may be added other supply side factors and also the whole issue about land use and a new addition - export of food grains.
In other words, there is about Rs.500,000 crores (more than US$79 billion) of "new" money that is chasing food items and most of this is invisible on the policy makers radar - at least till now. I think they are highly correlated to periods of Rising Food Inflation. This is what i am assuming. Considering that i am usually very conservative when making an estimate (because i would like to err on the side of caution), it is bound to be far higher. Assuming that my estimate is correct it is still large.
The point that we are trying to underscore is that people now have a lot more money in their hands, due to a variety of reasons. This is money that is going directly into the hands of those who are more likely to spend it immediately - and on food. In contrast, the remedial measures are geared at monetary policy, which take a long time to feed through to the system (say 6-9 months). Hence, the solution that is being tried out by the the Reserve Bank of India (monetary policy related) is not exactly very useful. Therefore, there is a need to reclabirate policy on the part of the Central Government and the RBI. Therefore, liquidity tightening may have only a limited role or even an adverse impact in controlling inflation because the underlying dynamics may not be working as well as they did in the past.
