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Why India is not able to tame Inflation?

Thu, 12/01/2011 - 07:44 — lalit

Inflation has been the most important phenomena for Indian economy for last 3 years. It has run like a wild fire and remains uncontrollable. In spite of tightening cycles of RBI, the inflation does not seems to be under control.

Before we venture into the why India is not able to tame, we need to understand the nature of inflation especially from the perspective of demand side and supply side inflation. Both essentially drive the supply demand curve but impact the curve in a different way. A demand side inflation is basically because of high demand of commodity whose supply is still at the same level. However the supply side inflation is because of the issue of supply side constrains itself at the first place.

We saw demand side inflation till 2008-09, till around Lehman collapse. The housing sector was a clear example of demand side inflation at that point of time. Also with an expectation that the housing prices will keep on increasing gave legs to inflation further. Also with the new found prosperity in India, Indians took a bold step in the direction of consumption economics. Similar thing happened in China and two fifth of the population of world is a sure to impact.

To contain the inflation, RBI got into the mode of interest rate hikes. A perfect recipe for containing demand side inflation, perfectly fits into the economics model. However this resulted in lower investments in different areas. This at some point was containing demand side inflation but building up supply side inflation. With no new investment in infrastructure, which in turn constrained the logistics in not working efficiently, the supply side inflation took over. The question is now if the same recipe of hiking interest cycle, would it help containing inflation? I think across the board interest hikes is not a solution for containing supply side inflation. For containing supply side inflation, we need to raise the supply levels. This can only be done if more investment is infused in certain sectors. Again we do not want to do the across the board interest rate relaxation as it can pent up the demand side inflation, especially if the easy money goes in the consumption economics by way of personal loans etc. But we do need to provide easy capital to companies building roads, generating power. We need to invest on companies which are working on alternative energies, as the oil bill is going to be a single big reason for the inflation in the years to come. Also we need to put more capital in whatever can save energy for us. We need to invest on irrigation companies, logistics and transportation. We need to kick start the things so that we can contain the supply side inflation. For example a simple thing to do is to have a fast turnaround at octroi's (or better abolish it), as each extra day a lorry stands there, it's building cost.

Comments

Thu, 12/08/2011 - 09:54 — Manoj Tiwari

Well theoretically make sense of demand and supply reason, but the model doesn't take factor like black money and corruption, as it assume perfect ideal env. One of the main reason of real state in india not burst in 2008 is due to black money all builder have which they make in last few years in real state boom, Regarding inflation I think some of other factors apart from above are sixth pay commission which has bring considerable disposable income in hand of laks of gov employee, fault in lgoctic in food supply chain. Also goverment policy like Employement Guarantee (see my blog http://insidemanoj.blogspot.com/2011/09/fault-in-goverment-schemes-like.html) So we required to build our own model based on indian realistic scenario to tackle this.
Tue, 02/28/2012 - 06:01 — Iza

I agree with your asmssesent.Not so duchess.. a gas station owner has to buy his gasoline from a refinery, directly or indirectly. The price you see at the gas station is more or less based on his cost from the refinery. It isn't as if refineries only service urban areas or rural areas. It's one market.Next time you observe fluctuations in gas prices, compare gas stations that do a lot of business with those that do very little. I noticed that an indie gas station near a freeway entrance that does almost no business was as much as $0.50 higher than one down the road, and further more he didn't change his price for a month, where the other stations chnage prices almost daily.Why? Because he doesn't cycle his inventory as often as the others - that is, he runs out of supply at a much lower rate than his competitors. Meaning he doesn't get an updated cost as often, either. This is a classic problem in an inventory business... stuff you paid $10 per unit for last year is piled to the ceiling in your warehouse. But you can now buy that item for $5. Do you cut prices to stay competitive but lose money? Or do you sit on it and hope that eventually you will run out and be able to resupply at the lower price?Think of consumers buying gas at the pump as if they were speculating in the stock market. Often a stock price is determined not buy the actual *value* of the stock, but rather on whether the day trader sitting next to you wants it.In otherwords gas prices can be seen as a bubble, where every player buys it on the spot market.Perhaps one way to introduce stability would be to allow consumers to purchase long term gas contracts like a futures market. I know that I get about 30 mpg in my honda civic. So I could offer to buy 1 month, 3 months, 6 months or a year's worth of gas up front based on that.

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