Disinflation may be a concern for India in the new year

Syllabus subtopic: Indian Economy and issues relating to planning, mobilization of resources, growth, development and employment.

Prelims and Mains focus: on CPI and WPI, disinflation, stagflation and their role in determining economic performance

News: Consumer Price Index (CPI) inflation for November was at 5.5%, while core CPI was at 3.26%. The CPI print, along with the low growth rate, suggests the possibility of sustained high inflation next year.

What is disinflation and why is it bad?

A general reduction in inflation is often termed disinflation. Central banks do want prices to moderate and a temporary reduction in inflation is desired as it can imply a productivity increase. Prolonged periods of disinflation result in a revision of inflation expectations by households and firms, which expect prices to drop further. This results in deferment of spending and investment decisions, which would result in contraction of demand leading to deflationary pressures. Persistent disinflation may result in deflationary cycles, which could cause an increase in leverage for firms, dampening economic activity and job creation.

Is India experiencing a disinflationary phase?

The increased divergence between the Wholesale Price Index (WPI) and CPI should be a cause of concern. But WPI figures suggest the existence of a disinflationary phase as WPI inflation was 5.68% in June 2018 and 0.16% in October 2019. This shows a consistent drop in WPI over 15 months despite some periods of temporary increase. We witnessed a similar increase for November as WPI was 0.58%. But since January, WPI has consistently been below 4%. If WPI figures continue to be below 2% in the first half of 2020, it would demonstrate the extent of weakness in demand that followed the crisis at non-banks.

Why are many people calling it stagflation?

The increase in CPI figures when the economic growth rate slowed to 4.5% in the September quarter has led many people to term it stagflation. Stagflation is a simultaneous increase in inflation and unemployment. However, this increase is because of seasonal factors and inflation is likely to be moderate for a few months.

Onion prices are high, how is inflation ‘low’?

Indeed, onion prices have risen and consumer food price inflation was 10.01%, while CPI was 5.5% for November. Delayed arrival of the new crop and damage to the harvested crop in Maharashtra, Karnataka and Madhya Pradesh have pushed up onion prices. Over the next few months, food price inflation may moderate and, thus, CPI could be back under 4%. Core CPI is at 3.26%, while WPI has been under 3% since May and under 2% since July. This suggests the bogey of disinflation is real, despite a temporary surge in CPI.

When will CPI inflation start moderating?

Many believe inflation will moderate from March, while others say the ghost of inflation is back. But persistently low WPI and core CPI figures suggest inflation would be back to the 3% level by March. Low commodity prices combined with excess capacity will ensure the bogey of inflation is unlikely to cause concern for a major part of FY21. This open the possibility of more interest rate cuts to revive growth and generate an inflationary impulse.

The differences Between WPI and CPI hat is the C