Recent months have seen some abatement in the incessant rise in food prices, with food inflation remaining below the 10% mark for the past three months. However, we believe that food prices will probably remain sticky on the downside - they will not come down in a hurry. In absolute terms, they will keep rising.
Five reasons why.
One, there is an increasing demand-supply gap for agricultural products. Two, minimum support prices have been increased. Three, as Firstpost has been arguing, India is getting caught in a classic wage-price spiral. Four, increased 'financialisation' of the commodity markets has taken place (ie., there is speculation in commodity prices). Five, there is a diversion of agricultural land for biofuels, leading to a potential shrinkage in land available for agriculture.
#1. Demand-supply gap: India's per-capita foodgrain produce is at its lowest decadal figure since 1961, going by production in the domestic market. At 180 kg per person, foodgrain production has seen its second consecutive decade of decline. The reason: population growth has far outstripped foodgrain production. For the decade ending 2010, population grew by almost 18% over the previous decade while foodgrain output grew by under 11%.
#2. Rising minimum support prices (MSP): Recently, the Cabinet Committee on Economic Affairs increased the MSP of major food crops like rice, jowar, bajra, maize, and pulses, among others, by anywhere between Rs 80-400 a quintal. With all other factors remaining the same, just this move has resulted in an 8-14% increase in the prices of these products.
The price impact of this move will not be immediate, since it is for the kharif crop of 2011-12, so we should start seeing an increase in food prices on this count from the third quarter of 2011-12 onwards when the kharif crop begins to get harvested. If the Food Security Act is legislated, it will need huge grain procurement. This will call for even higher MSPs.
#3. Wage-price spiral: Firstpost has already argued that the Indian economy is caught in a wage-price spiral. Salaries are expected to rise by 10-13% on an average this year, according to reports, among the highest in Asia. This further puts pressure on overall inflation. Rising incomes also lead to higher consumption per head of food up to a point. In rural areas, NREGA wages are pegged to inflation, which depend again on food prices.
#4. Speculation in commodity markets: A recent report by the United Nations Conference on Trade and Development (Unctad) points to a high degree of co-movement between commodity price increases and proxy indicators for speculation in the commodity markets like economic data releases. The report also argues that an increasing amount of money is deployed in the commodity markets, and real business cycle factors no longer hold an adequate explanation for increased commodity prices.
#5. Diversion of agricultural lands: The OECD, the rich countries' club, in its outlook for food prices over 2007-16, argues that the rise of the biofuel industry could lead to a higher plateau for food prices over the period. With crude prices on the rise, and fresh geo-political issues in the Middle East, the biofuel industry is only likely to get more impetus.
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Updated Date: Dec 20, 2014 03:53:45 IST