Reining in Inflation in India: Options for a Developing Economy

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The Indian economy was characterized by relatively high inflation prior to the introduction of economic reforms in 1990-91. During the post reform era, however, inflation grew more moderate once the reforms percolated deeper into the economy. Average inflation, which was 9.6% during the 5-year period between 1991-92 and 1996-97, slipped to 4.6% in the next five years, before slightly increasing to 5.3% between 2003-04 and 2007-08. Inflation which was under control for almost a decade, and even went below zero for a brief period in mid-2009, started increasing at a quick pace from mid 2008-2009.

It spiralled, "reflecting both supply and demand pressures. Supply pressures stemmed from elevated domestic food prices and rising global prices of oil and other commodities. The source of demand pressures was an economy with low per capita income which recovered sharply from the crisis. The supply pressures and demand pressures collided, triggering a wider inflationary process,"¹¹ according to D. Subbarao, Governor of RBI.

A severe drought in 2009 was considered to be the chief reason for the inflation, along with post-crisis monetary and fiscal policies characterized by various fiscal stimulus measures which resulted in easy credit. The monsoon rainfall in 2009 was 679.3 millimetres against the normal rainfall of 884.1 millimetres or 23% below normal, -- the worst in 37 years.¹² With the drought, food supplies fell. The growth rate of agriculture and allied sectors declined by 0.15% (negative growth) in 2008-2009, and recorded a growth of 0.44% the following year. On the other hand, lenient monetary and fiscal policies ensured abundant liquidity in the economy. Sustained demand due to policy measures during and post crisis, coupled with supply constraints in food produce resulted in food inflation.

The Commission for Agricultural Costs and Prices,¹³ in its report on the price policy for the 2011-2012 kharif season, identified that inflation in primary articles, particularly food articles, was the main contributor to inflation in the economy.¹⁴...

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11] Duvvuri Subbarao, "Monetary Policy Dilemmas: Some RBI Perspectives," www.rbi.org.in, October 10, 2011
12] "India suffers worst drought in 37 years," http://articles.economictimes.indiatimes.com, September 30, 2009
13] The Commission for Agricultural Costs and Prices was set up by the Government of India in 1965 to advise the government on price policy of major agricultural commodities. The main objective of the Commission while recommending prices is to balance the interests of the producer and the consumer. The Commission also devises an integrated price structure keeping in view the overall needs of the economy.
14] Report on Price Policy for Kharif Crops of 2011-2012 Season, Commission for Agricultural Costs and Prices, Government of India, 2011

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