Raghuram Rajan’s memo: For poor, inflation is the big worry, not GDP number

The GDP growth-figure obsessed Indian politicians, who use the super-growth numbers often as a tool to impress the electorate than reflect the real growth conditions on the ground, would do well to listen to the outgoing Reserve Bank of India (RBI) governor, Raghuram Rajan’s response on the growth-inflation trade off.

In a recent interaction with journalists, Rajan said it does not really matter whether the GDP growth number is 7.6 or 8, what matters is the quality of growth, especially, where the country’s poor is concerned.

Raghuram Rajan, central bank governor. Reuters

Raghuram Rajan, central bank governor. Reuters

“I have sort of refrained from having thumping on the table and saying this is going to be the growth number or that is going to be the growth number,” Rajan said.

“We sometimes get overly fixated with a particular growth number. What we should be focussed on is undertaking all the actions that we need to ensure that growth is strong and sustainable,” Rajan said

“India should be focussed on actions to ensure that growth is strong and sustainable....and that means macro stability, that means the kind of structural reforms we are doing to enhance the pace of growth. I think those are really what we should be focussed on rather than whether it is half a percentage point up or down," Rajan said.

In other words, Rajan is telling the growth-mongers in the Narendra Modi-government, do not get excited if the GDP growth figures move a few percentage points either way. Instead, the government should focus on fiscal prudence and reform continuity. Rajan has also noted that the Indian economy has performed well despite a slowing world economy and consecutive droughts.

Secondly, Rajan makes an important point on the allegations that he has been ‘behind the curve’ on getting the growth-inflation trade off right. Remember, this has been a major accusation against the central bank governor by BJP leader Subramanian Swamy.

Behind the curve?

Swamy had accused Rajan of wrecking the economy with high interest rates for a prolonged period. Swamy had friends in the Narendra Modi-government who shared a similar view.

“This discussion keeps going on without any economic basis. You saw the CPI numbers just last week. 5.8 per cent is the CPI inflation, our policy rate is 6.5 per cent. So I am not sure where people say we are behind the curve. You have to tell me that somehow inflation is very low for us to be seen as behind the curve. So, I don’t really pay attention to this kind of dialogue,” Rajan said.

In fact, Rajan’s predecessor, D Subbarao too had rubbed the UPA-government and especially the then finance minister, P Chidambaram, the wrong way for not cutting interest rates in the desired fashion to push growth.

Chidambaram expressed his displeasure in public saying the government will ‘walk alone” to achieve the growth-objective, if need be. But, some economists later opined that Subbarao should have hiked interest rates by a sharper margin to address the evil of inflation in the economy. In that sense, the central bank always has had a lone-battle as far as the inflation-fight is concerned.

The central bank’s concern and focus on tackling inflation is fully justified since high prices have been impacting low-income population with no commensurate increase in their wages, forget about benefiting from the so-called high growth numbers. This fact has been highlighted time and again by economists and rating agencies.

Rural and urban population

According to the latest study conducted by rating agency Crisil, the Indian subsidiary of Standard & Poor's, data for the last five years show folks in rural areas – or 69 percent of India’s population -- having got the rough end of the stick on inflation compared with their urban counterparts. Specifically, in the 24 months to June 2016, while urban inflation fell from 9 percent to 5.3 percent (compared with the two years prior), rural inflation declined from 10.1 percent to 6.2 percent, Crisil says.

The gap has remained about 100 basis points in the recent past, caused by higher core and fuel inflation in the rural areas.

In fiscal 2016, rural core inflation was 6.7 percent compared with 4.8 percent in urban. Sub-categories such as health, education, household goods and services, recreation and amusement have all recorded higher inflation in the hinterland last fiscal.

When prices of essential food items and services for majority of Indian households remain high, that snatches away the fruits of economic growth from poor households. This is the context in which the RBI has been expressing concern on inflation and dismissing arguments as mere dialogues. Also, note that ever since the RBI under Rajan, has begun the rate easing cycle, the RBI has cut interest rates by a total 150 basis points.

The recent trend on consumer inflation is indeed worrying. In June, the consumer price index (CPI) inflation rose to 5.77 percent compared with 5.76 percent in the preceding month. The CPI has been rising from April (5.47 percent compared with 4.83 percent).

Worrying food prices

The current trend indicates that food and vegetable inflation continue to be the pain areas of inflation. Food inflation rose to 7.79 percent in June from 7.47 percent while that of vegetable inflation rose to 14.74 percent from 10.85 percent. Going ahead, the volatile food inflation will remain key to dictate the course of inflation.

For RBI too, the trend is a concern since under the current agreement with the  government, if the inflation jumps beyond the 6 percent upper band, it will have to explain to the government in writing why it failed to keep the figure within the limit (on the lower side, it is 2 percent). It is akin to the RBI’s credibility and its ability to manage inflation being questioned in public.

If the international crude price surprises on the negative side, things can get even more complex for India on the inflation-front.

GDP vs inflation

Rajan’s message to the Modi-government is clear: Do not go for breast-beating over GDP-growth numbers and put undue pressure on the central bank to deviate from the inflation fight, which is far from over.

What is more important is to ensure that fruits of economic growth reach the bottom of the pyramid. Inflation, not growth, is the biggest worry for India’s poor.

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Updated Date: Jul 18, 2016 15:32:52 IST

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