The Centre Should Help RBI Tame Retail Inflation

Context: Rising prices no longer seem transitory. RBI would have to stop being so dovish, and Centre should try offering fuel-tax relief.

Inflationary pressure: Consumer Price Index (CPI) breaching mandated 6% margin for a second consecutive month, at 6.3% in May and 6.26% in June.

Factors causing inflation

     

• Domestic factors: Driven by higher food and fuel inflation. But ‘core inflation’ calculated without these items has also been buoyant.
• Imported inflation: As global commodity prices are rising due to demand recovery in advanced countries and spillover of pricier crude oil.

Risks associated with higher inflation

• Rise in macro-economic risks: As spurt of inflation is not a case of Indian economy overheating.
• Overall demand remains weak, and production has been erratic as disruptions due to pandemic are continuing.
• Risk of running into a spell of stagflation, a combination of economic stagnancy and high inflation.
• Risks of dampening recovery: As in response, RBI could tighten credit by raising policy rates or reversing other liquidity measures.  This could dampen commercial activity at a precarious juncture.
• External risks: Triggered from possible capital outflows (Taper tantrum) due to withdrawal of American central bank’s ultra-easy money policy.
• Risks associated with falling rupee: Would enlarge our import bill, push up retail prices further and hamper our exports.

Way forward: India’s fiscal and monetary authorities must both work in tandem

• Role of Centre – Call for fuel tax rationalisation: As taxes make up the bulk of petrol and diesel prices, there is a pressing need for relieving the extra tax burden on fuel (which were imposed at a time when crude oil prices were at a historic low) and, further steps are to be initiated to bring petrol and diesel under GST.

• The revenue forgone would be outweighed by the twin benefits of fuel-price moderation and a slight stimulus imparted by cheaper conveyance.

• Role of RBI – Review monetary policy: RBI’s monetary policy must turn less dovish.