I recently attended a lecture at Madras School of Economics by Professor T.N. Srinivasan (Samuel C. Park, Jr. Professor of Economics, Yale University, Connecticut, United States). It was Third R.Venkataraman Endowment Lecture , in the fond memory of late President of India. President Venkataraman was a renowned economist and a lawyer and was fondly known as ‘RV’. Professor Srinivasan (hereafter TNS) talked about RV’s contributions towards development of India and his achievements in first few minutes of his interaction. the Occasion was also marked by the presence of Professor A. Vaidyanathan
(a member of the Central Board of Directors of the Reserve Bank of India).
The lecture focused on , “RECENT BOUTS OF INFLATION IN INDIA: POLICY PARALYSIS?”. I took notes from his lecture and would make an attempt to jot down main crux of his lecture.
He mentioned that the problem of stagnation of the share of financial savings , is threatened by black economy and high rates of inflation. He then pointed out key issues with the measurement of inflation in India, which are summarised as below.
Measurement Issues
- RBI’s ultimate objective is sustained growth with financial stability. He says that from consumer’s welfare perspective relevant price index is Consumer Price Index (CPI). Also, Producer Price Index is used in many countries along with aggregate CPI. Neither an aggregate CPI(until recently) nor PPI is published in compiled in India.
- We measure Inflation as Wholesale Price Index (WPI), the year-on-year of this is also known as Headline Inflation. Also Wholesale prices of food articles is termed as Food Inflation which is misleading.
- D Subbarao recognizes this problem yet RBI goes for WPI, primarily because CPI data was not available (and only made available in Feb, 2010).
- Also, Indian WPI is not actually what WPI stands for, because it uses retail prices for some and wholesale prices for some commodities. It does not include services. So TNS hopes that when new data for CPI accumulates, RBI switch to its use.
- He also proposes that in addition to CPI a new better PPI and cost of living index should be complied. Also In India, we do not have process to include new goods and quality improvements in old goods in price indices, we need it urgently because we see a huge wave of new products and quality enhancements in older ones due to trade liberalization and greater competition.
Keeping all this in mind, we can say that Inflation in India are overstating the true values.
Trends in Inflation
He underscores that time pattern in changes in the price of food articles and not the same as all commodities. In a period of 79 months from April 2005, nominal food prices rose faster in 55 months that other goods nominal prices.
- 53 out of 55 in two long spells.
- 26 out of 29 months from July 2005 to November 2007, and
- 27 out of 29 months from October 2008 to February, 2011
Repo Rates and Inflation
A simple correlation between inflation in all commodities and repo rate yields a coefficient of 0.39, and coefficient of ‐0.47 between inflation in food articles and the repo rate. This is somehow two opposite things happening out here.
Analysis of Inflation
- He points out that Inflation is about changes in nominal prices over time, thus is a dynamic stochastic process which requires a framework incorporating the stochastic shocks to the economy for its analysis.
- Any analysis of Inflation , necessarily has to take into account the monetary policy and financial sector behaviour as well. (He quotes Minton Friedman’s statement here.)
- Effects on real sector integrated with monetary sector should also be considered (consumer welfare, aggregate and sectoral outputs and growth, real investment, employment)
- He also talks about expectations of future prices, and quotes Keynes arguments of expectations of decision makers of the futures prices.
- He says, that recent crisis was not foreseen by anyone not even academic economists, and it highlighted issues with macroeconomic and financial models, which gave way to ever-growing literature on ‘ What is wrong with Macroeconomics’. According to him, India specific models on Dynamic Stochastic General Equilibrium (DSGE) are very few.
Indian Inflation
- Country’s economic managers have not been able to fully grasp the process underlying the persistent high inflation.
- Criticizes Kaushik Basu’s papers published in EPW for being less insightful . Goes to an extent of saying that he would have not expected this from the brilliance of Basu.
- One can refer Basu’s paper: I searched for the paper titles , and found them to be the ones below, a)”Understanding Inflation and Controlling it”; b)”India’s Foodgrain Policy, An Economic Theory Perspective.”
- He talks of Mihir Rakshit’s paper that questions the macroeconomic framework of monetary and fiscal policy.
Policy Implications
Good News: Recent Decline in Food Inflation
Bad News: GDP growth rate going down
Montek Singh points out to investment slowdown, but no data bear him out.
Unnecessary stimilus during March 2009.
Forward Looking manner needed.
Lack of consolidation – organised data
TNS expects RBI to come with a report on Impact of European Debt Crisis.
Policy should be proactive rather than reactive.
Lack of coherence in Policy Making
Vaidyanathan’s Inputs
Problems RBI faces: Skewness of Income increased, Enormous increase in Asset Pricing, Informal Financial Sector.
