Third Meeting of Inter Ministerial Group (IMG) on Inflation Held ; no Conflict Between the Objectives Of High Growth and Low Inflation in Long Run: Says RBI Governor
A meeting of the Inter-Ministerial Group (IMG) on inflation was held today under the Chairmanship of Dr Kaushik Basu, Chief Economic Advisor, Ministry of Finance. The IMG was set-up at the suggestion of the Prime Minister on 2.2.2011, to review the inflation situation and suggest corrective measures.
Along with Dr. Kaushik Basu, Chief Economic Adviser and Chairman of the IMG, the meeting was also attended among others by Ms. Sudha Pillai, Member Secretary, Planning Commission, Shri P.K. Basu, Secretary, Department of Agriculture & Cooperation , Shri B.C. Gupta, Secretary, Department of Food &Public Distribution, all Members of IMG.The meeting was also attended by Smt. Sushma Nath, Finance Secretary, ShriR.Gopalan, Secretary, DEA, Shri Rahul Khullar, Commerce Secretary, Shri. T. C. A. Anant, Chief Statistician and Secretary, MoSPI, Dr.Govinda Rao, NIPFP, Shri. Suman K Bery, Dr. Subir Gokarn, Dy.Governor, RBI,Shri.Yogesh Suri, Adviser, Planning Commission, Smt.S.Bhavani, Senior Economic Adviser, DEA, Dr. DipakDasgupta, Principal Economic Adviser, DEA and Smt. Vini Mahajan, Joint Secreatry, PMO, as special invitees.
The IMG has been entrusted with the task of studying and proposing policies pertaining to (a) food article inflation and (b) macro-economic demand management. Today™s meeting of IMG pertained to Macroeconomic Demand Management with focus on Inflation-Growth dynamics.
In his opening remarks, Dr.Kaushik Basu, Chief Economic Adviser, Ministry of Finance and Chairman IMG, said that in last December, inflation after having gone down almost on cue for three quarters of a year, reared its head once again. He pointed out that, however, at the G-20 meeting last month, he found that all emerging economies were troubled by the resurgence of inflationary pressures and there was concern that the very nature of global inflation may be changing.
Governor of the Reserve Bank of India (RBI), Dr.D.Subbarao addressed the IMG and made a presentation to the Group on Inflation in India.
The Governor, RBI discussed the current inflation scenario and, in this context, focused on three analytical issues.
Current Inflation Scenario
The Reserve Bank has given its assessment of inflation in the May 3 Monetary Policy Statement. There are three important issues.
First, inflation was the primary macroeconomic concern throughout 2010-11, especially the resurgence in the last quarter of 2010-11. Although the trigger for the jump during January-March 2011 was the sharp uptrend in international commodity prices, the fact that these were quickly passing through into the entire range of domestic manufactured goods indicated that pricing power is significant. In other words, demand has been strong enough to allow significant pass-through of input price increases.
Second, with both headline and core inflation remaining significantly above the projections and the comfort level, there are concerns about inflationary expectations becoming unhinged.
Third, over the long run, high inflation is inimical to sustained growth as it harms investment by creatinguncertainty. Current elevated rates of inflation pose significant risks to future growth. Bringing them down, therefore, even at the cost of some growth in the short-run, should take precedence. The monetary policy trajectory initiated in the Annual Statement for 2011-12 was based on the above premise.
Analytical Issues
First, the Indian experience with regard to long-run inflation and growth shows that, notwithstanding the current inflation scenario, the average inflation rate, measured in terms of WPI and CPI, had moderated to around 5.5 per cent during the last decade from around 8 per cent in the preceding four decades. This could be attributed primarily to more effective monetary management, largely enabled by fiscal consolidation and other improvements in monetary-fiscal interface
Second, on the growth-inflation trade-off, the Indian as well as the international experience suggests that there is no long-run trade-off between growth and inflation. Any attempt to push growth above the potential will only lead to higher inflation but no durable growth/employment gains.
Third, with regard to monetary-fiscal interface, cross-country experiences clearly show that price stability and inflation expectations are critically dependent upon the fiscal regime. In the presence of persistently expansionary fiscal policy, even an independent central bank cannot ensure price stability. The Indian experience during the 1970s and the 1980s is consistent with the cross-country experience. High fiscal deficits were associated with high money supply growth, high inflation, high statutory preemptions and a highly repressed financial regime. Fiscal consolidation during the 2000s prior to the onset of the global financial crisis led to a virtuous circle of high savings, high investment, better monetary control, high growth and low inflation. Fiscal consolidation should also help in a further reduction in the statutory liquidity ratio, which will increase the flow of credit to productive activities.
Overall, our track record is satisfactory. Over the last decade, inflation has averaged around 5.5 per cent, close to our comfort zone and consistent with indicative projections set out on monetary policy. More importantly, this was achieved in an environment of high growth and financial stability.
Way Forward
Based on cross-country as well as domestic experience, the Reserve Bank is strongly of the view that containing inflation is imperative to sustaining growth over the medium-term. This is a critical attribute of a favourable investment climate, on which growth sustainability depends. Fiscal consolidation will also contribute to improving the investment climate. In addition, the following structural factors need to be addressed:
- The impact of diversification of consumption baskets on demand and prices of proteins, fruits and vegetables.
- Weak supply response in agriculture and the imperative to translate the 2011-12 budget initiatives into concrete actions
- Besides food, the contribution of infrastructure bottlenecks and human capital imbalances to structural inflation.
Sustained high growth is unlikely in a high inflation environment. Both demand management and supply response policies need to be co-ordinated in ways that work to bring inflation and keep under control.
Several other members and special invitees spoke and asked questions. This was an intense session of the IMG. During the discussion, the Chairman, Dr.Kaushik Basu, emphasized what the Governor RBI had said, namely, that in the long run there is no conflict between the objectives of high growth and low inflation. In the short run, lowering inflation can have a dampening effect on growth, as the traditional Philips curve analysis suggests. But that is desirable, he said, if our aim is to achieve high, sustainable growth. The Chairman, IMG Dr Basu summed- up that in our daily fire fighting, we do not get the time to stock take on policy. This is exactly where the IMG comes in and today™s meeting was particularly useful in this respect, he added
