FOOD INFLATION

1. Background

• According to International Monetary Fund Inflation is the rate of increase in prices over a given period. Inflation is typically a broad measure, such as the overall increase in prices or the increase in the cost of living in a country
• Inflation is the rate at which prices for goods and services rise.
• It is sometimes classified into three types: demand-pull inflation, cost-push inflation, and built-in inflation.
• The most commonly used inflation indexes are the Consumer Price Index and the Wholesale Price Index.
• Inflation can be viewed positively or negatively depending on the individual viewpoint and rate of change.
• Those with tangible assets, like property or stocked commodities, may like to see some inflation as that raises the value of their assets.
• The issues posed by food inflation were discussed extensively in the RBI's statement accompanying its extraordinary monetary tightening measures announced last week.w
• Up till now, the problem was mostly limited to edible oils (owing to skyrocketing worldwide costs even before the Russia-Ukraine war) and vegetables like onion and tomato (due to unseasonal heavy rains).
• However, there is a concern that food inflation will become "generalized."

2. What Drives Inflation in General 

• Long-lasting episodes of high inflation are often the result of lax monetary policy. 
• If the money supply grows too big relative to the size of an economy, the unit value of the currency diminishes; in other words, its purchasing power falls and prices rise. 
• This relationship between the money supply and the size of the economy is called the quantity theory of money and is one of the oldest hypotheses in economics.
• Pressures on the supply or demand side of the economy can also be inflationary. 
• Supply shocks that disrupt production, such as natural disasters, or raise production costs, such as high oil prices, can reduce overall supply and lead to “cost-push” inflation, in which the impetus for price increases comes from a disruption to supply. 
• The food and fuel inflation of 2008 was such a case for the global economy—sharply rising food and fuel prices were transmitted from country to country by trade. 
• Conversely, demand shocks, such as a stock market rally, or expansionary policies, such as when a central bank lowers interest rates or a government raises spending, can temporarily boost overall demand and economic growth. 
• If, however, this increase in demand exceeds an economy’s production capacity, the resulting strain on resources is reflected in “demand-pull” inflation. 
• Policymakers must find the right balance between boosting demand and growth when needed without overstimulating the economy and causing inflation.
• Expectations also play a key role in determining inflation. If people or firms anticipate higher prices, they build these expectations into wage negotiations and contractual price adjustments (such as automatic rent increases). This behaviour partly determines the next period’s inflation; once the contracts are exercised and wages or prices rise as agreed, expectations become self-fulfilling. And to the extent that people base their expectations on the recent past, inflation would follow similar patterns over time, resulting in inflation inertia.

3. Signs of Food Inflation

• The Food and Agriculture Organization's (FAO) food price index increased by 29.8% year over year in April.
• All commodity group price indices have seen significant increases: cereals (34.3%), vegetable oils (46.5%), dairy (23.5%), sugar (21.8%), and meat (21.8%). (16.8%).
• Food inflation is already growing internationally due to supply interruptions caused by the conflict, dry weather in South America, the Russia-Ukraine war, and high crude prices causing more corn, sugar, palm, and soybean oil to be diverted for biofuel, and so on.
• How food inflation affects the Protein intake of the people across India
• The present food inflation, as already noted, has been more about carbohydrates and fats than proteins and micronutrients. 
• All-India modal or most-quoted retail prices of dals (split pulses) are lower now than a year ago. 
• In milk, the crash in international SMP and butter fat prices has forced some correction in the domestic market as well. 

4. Types of Inflation

4.1.Cost-push inflation:

• Cost-push inflation (also known as wage-push inflation) occurs when overall prices increase (inflation) due to increases in the cost of wages and raw materials.
• Higher costs of production can decrease the aggregate supply (the amount of total production) in the economy.
• Since the demand for goods hasn’t changed, the price increases from production are passed onto consumers creating cost-push inflation.

4.2.Demand-pull inflation

• The term demand-pull inflation usually describes a widespread phenomenon. That is when consumer demand outpaces the available supply of many types of consumer goods.
• And In demand-pull inflation sets in, forcing an overall increase in the cost of living.
• Demand-pull inflation is a tenet of Keynesian economics that describes the effects of an imbalance in aggregate supply and demand.
• When the aggregate demand in an economy strongly outweighs the aggregate supply, prices go up. This is the most common cause of inflation.

5. Major reasons for present ongoing Food inflation

• Russia and Ukraine supply about 30% of global wheat exports, but those have fallen as a result of the conflict.
• National stocks of wheat – mostly eaten in the countries where it is grown – remain relatively high.
• But the drop in exports from Russia and Ukraine has driven up competition for the remaining wheat on the global market, leading to higher costs that are particularly painful for poorer, debt-ridden countries that rely heavily on imports.
• Almost 40% of Africa’s wheat imports come from Ukraine and Russia while rising global wheat prices have sent bread prices in Lebanon 70% higher.
• Since the last food price crises of 2007-2008 and 2011-2012, governments have failed to curb excessive speculation and ensure transparency of food stocks and commodity markets

6. How can the situation be Analyzed

• Food inflation resulting from war, drought, unseasonal rains and heat waves is different from structural demand-pull factors. 
• The inflation now is not only more of the former, but also in foods mainly delivering calories rather than proteins, vitamins and minerals. That, to some extent, makes it worse than the previous inflation, which, in Gokarn’s words, was “an inevitable consequence of rising affluence”.
• While high prices would also induce supply response from farmers, a lot hinges on the monsoon. Last year’s monsoon was “normal” in an overall sense but marked by an extended dry spell in July and then too much rain from late August, followed by the heavy unseasonal showers of December-January. 
• One has to see how normal the “normal” monsoon forecast by the India Meteorological Department turns out to be.
• Meanwhile, the good news is the Centre, on Saturday, cut the excise duty on diesel by Rs 6/litre and many states have also announced reductions. That should have a further salutary effect on food inflation in the coming days.

7. How policymakers deal with inflation

• The right set of disinflationary policies, those aimed at reducing inflation, depends on the causes of inflation. 
• If the economy has overheated, central banks—if they are committed to ensuring price stability—can implement contractionary policies that rein in aggregate demand, usually by raising interest rates. 
• Some central bankers have chosen, with varying degrees of success, to impose monetary discipline by fixing the exchange rate—tying the value of its currency to that of another currency, and thereby its monetary policy to that of another country. 
• However, when inflation is driven by global rather than domestic developments, such policies may not help. 
• In 2008, when inflation rose across the globe on the back of high food and fuel prices, many countries allowed the high global prices to pass through to the domestic economy. 
• In some cases the government may directly set prices (as some did in 2008 to prevent high food and fuel prices from passing through). 
• Such administrative price-setting measures usually result in the government’s accrual of large subsidy bills to compensate producers for lost income.
• Central bankers are increasingly relying on their ability to influence inflation expectations as an inflation-reduction tool. 
• Policymakers announce their intention to keep economic activity low temporarily to bring down inflation, hoping to influence expectations and contracts’ built-in inflation component. 
• The more credibility central banks have, the greater the influence of their pronouncements on inflation expectations.

8. Way Forward

• India should focus on grains, which account for the majority of the food CPI.
• Grain exports have already surpassed a record high of 31 million metric tonnes (MMT) at $13 billion for the first time in Indian agriculture's history, and the same cereal marvel may be repeated this fiscal year (FY23).
• Wheat exports have increased by about fourfold in the last year, from $0.56 billion (or 2 MMT) in FY21 to $2.1 billion (or 7.8 MMT) in FY22 (see figure).
• Climate change is already at our doorstep. Wheat yields are expected to drop by roughly 5 MMT for every one degree Celsius increase in temperature, according to IPCC assessments.
• This necessitates significant investments in agricultural research and development to develop heat-resistant wheat varieties as well as models for "climate-smart" agriculture. On this, India is totally behind the times.
• However, India is well ahead of the curve in providing free food to 800 million people, with a food subsidy cost expected to exceed Rs 2.8 lakh crore this fiscal year from the Centre's net tax collection of over Rs 20 lakh crore.
• India must efficiently focus its large food subsidies while also conserving resources for increasing import bills on edible oils and fertilizers.
• For a long time, edible oil inflation has been out of control, reaching double digits, with no relief in sight for consumers.
• Due to weaker wheat production and procurement this year, India has done well to replace more rice in the PMGKAY and may do so in NFSA allocations as well.
• However, instead of grains, recipients should be given the option of receiving cash in their Jan Dhan accounts (equal to MSP + 20%).
• This is legal under the NFSA, and it allows India to save money on its soaring food subsidy expenditure.
• India must also avoid any fear-mongering about what might lead to an export restriction. It would be a move against farmers.
• The problem with our previous policies has been that it has been significantly slanted towards protecting consumers in the name of the poor by constricting markets by placing stock limitations on dealers, setting minimum export prices, or outright banning exports.
• India must avoid this path and allow agricultural exports to thrive.
• To supplement their earnings, Indian farmers want access to global markets, and the government must assist them in developing more effective export value chains by lowering marketing costs and investing in efficient export logistics.