Importing food not an answer to inflation: Kaushik Basu Chennai, Nov.

19: The Chief Economic Adviser to the Union Finance Ministry, Dr Kaushik Basu, today said that the government is doing its best to rein-in inflation and the inflation rate would have been much higher if it were not for its endeavours. Speaking to journalists of The Hindu group of publications here, Dr Basu said that inflation is a difficult issue to handle, as it could arise from several, disparate sources. It could indeed turn up as a side-effect of a noble exercise, such as for example, financial inclusion or squeezing out black money. While financial inclusion brings in more money into the financial system, black money, which typically moves slowly in its underground channels, becomes of high velocity when turned white. Dr Basu stressed that while both financial inclusion and unearthing black money are desirable exercises, an unintended side-effect might be some upward pressure on prices. Asked if importing foods, (the shortage of foods is believed to be the biggest cause of inflation today) could be an answer to inflation, even at the cost of swelling the fiscal deficit, Dr Basu said that in a situation where there is a minimum support price for food products, importing may not work out quite well. This is because if importing foods brings down the market prices of goods, then the MSP would turn out to be so attractive to the farmers that almost all the farm produce would end up in the public distribution system. Nor is it practical to import food for short periods of time, because it is very difficult to time it right . Dr Basu, however, said that the mechanism of giving food subsidy could be re-designed in such a manner that the poor are given money, out of which they buy the goods at market prices. Admitting that such a mechanism has its own problems, he said that it could still be fine-tuned so as to serve as a better alternative than the existing method (which is to procure agriculture at prices that are attractive to the farmers, and then release it to the public at lower prices.) Dr Basu said that the government expects to reach close to the disinvestment target (of Rs 40,000 crore this year). The market is saying that we will end up with Rs 6,000-7,000 crore, but we are going for a bit of a dash towards that target, he said, adding that even if the target is missed, it would at worst be by a small margin. Answering a question, Dr Basu said that India could set up a sovereign debt fund using its foreign reserves. While accepting the argument that much of the reserves is composed of hot money', he said that pulling out (say) $20 billion would not matter much, and could be used for making strategic investments abroad. (This article was published in the Business Line print edition dated November 20, 2011)

India needs to curb food wastage to tackle inflation: World Bank Input subsidy expenses not contributing to boost productivity Chennai, Sept 23: The World Bank has said that South Asia's foodgrain stock management, especially in India, needs to improve to tackle inflation. In its focus on food inflation in South Asia, the bank said that high stocks have led to high wastage due to inadequate storage capacity and technology. According to World Bank's estimates, the Food Corporation of India lost 10-16 million tonnes of grains in 2000. The FCI's inefficiencies not only lead to high losses of the grains it handles, they also drive up the costs of food handling. Comparisons show that the FCI's handling and storage costs are significantly higher than those of the private sector. The increase in procurement has led to a significant increase in the fiscal costs of the system, the report said. The FCI procures nearly one-third of wheat, rice produced in the country, besides coarse grains at the minimum support price fixed by the Government. The stocks are then transported to deficit States and sold through the public distribution system at a subsidised rate. It said demand for food is undergoing structural shifts as incomes rise. Growth in consumption of pulses, fruits, meat, eggs, and dairy items is more than double the consumption growth in cereals. Inflation in these items has been higher than in cereals. Public intervention in agricultural marketing in India and Pakistan has high fiscal costs and narrowly supports cereal production, while high food inflation and continuing high rates of food insecurity are linked to an inadequate supply response in non-cereal food products, the report said. Input subsidies contributed to the overuse of water resources, high losses of electricity utilities, and deteriorating soil conditions because of skewed application of fertiliser. It said expenses on these were not contributing to productivity and they could instead be used as investments in agricultural research, education, and rural roads are amongst the most effective public spending items in promoting agricultural growth and reducing poverty. Food and fertiliser subsidies have increased to over 1.5 per cent of the GDP since 2008-09 from around one per cent in the 1990s. Annals of public procurement Outlays on food subsidies are far higher than public investment in agriculture and outlays for extension services, which could increase agricultural production and lead to lower prices over time.

In India and to a lesser degree in Pakistan, large-scale public procurement hampered the private sector not only by pre-emption, but also by taxes and rules for moving grains across state borders, and caps on storage of grains designed to facilitate public procurement. The bank found fault with mandatory Jute Packaging Act, frequent changes in the Essential Commodities Act, low private investment in grain marketing, insufficient investment in supply chain and marketing rules. The bank proposed five policy options to tackle inflation including in foodgrain storage management. It called for demand management policies in South Asia earlier than in advanced countries because of the high share of food items in consumer baskets with priority for fiscal consolidation. Over the longer term, it called for policies aimed at increasing agricultural output and productivity to alleviate pressures on food prices, including focus on technology, improved water management, rural infrastructure, agricultural diversification, and private sector investment in marketing and the agro industry. It said governments should exploit the efficiency gains they could achieve (in terms of protecting and improving nutritional status) through provision of more nutritious foods (e.g. foods fortified with essential vitamins and minerals) and by increasing beneficiary knowledge on how to maximise household resources for nutritional impact. It asked governments to explore developments of market-based tools and assistance for managing risks, particularly those that affect the government's budget.

Wrong approach to inflation In accordance with widely accepted economic theory, the Reserve Bank of India has been trying to cure inflation by raising interest rates. It has done so virtually every month; unfortunately, even after nearly a dozen such exercises, inflation still persists. As Sir Francis Bacon pointed out over four hundred years ago, a theory is merely a theory; it cannot be taken as fact unless it is confirmed

by experiment. In the present case, the theory that inflation can be cured by making money costlier has not worked. It is not a fact.
This situation reminds me of one of Wodehouse's stories about Lord Emsworth. The Lord had scratched his leg thanks to the asinine attentions of a nephew. The contrite nephew brought him a lotion as a cure. The Lord liked its smell and applied it generously. The pain increased instead of decreasing. So, he applied it even more. Ultimately, unable to bear the pain, he washed it off, and got immediate relief. As Wodehouse explains it, the problem was that the medication was meant for horses and not for the delicate skin of a peer of the realm. TACKLING UNEMPLOYMENT Then, is inflation the real problem? Do we not also have uncontrolled unemployment? Is not the growth rate slackening? Have we contracted stagflation inflation plus recession rather than mere inflation? True, we are still growing, and therefore our disease cannot be absolute stagflation. On the other hand, our growth and employment are both less than what they should be for full employment. Hence, what we are suffering from should be described as relative stagflation. I suggest that unemployment is worse than inflation. Unemployment results when productivity per employee exceeds consumption per employee. However, economies need some breathing space, some flexibility. Hence, economists accept full employment as equivalent to about 5 per cent unemployment. Otherwise, nobody will seek employment and the employers will suffer gridlock. Hence, we may take it that full employment occurs when consumption per employee is around 95 per cent of production per employee. Thus, employment depends on two factors productivity and consumption. It is often suggested (particularly in developing countries) that a reduction in productivity is a good solution to unemployment. Hence, it is tempting to shift to labour-intensive, low-level technology. CHOICE OF TECHNOLOGY Unfortunately, reduction in productivity has an unacceptable handicap; it reduces prosperity; it increases employment by redistributing poverty rather than by promoting prosperity. For that reason, reducing productivity by adopting labour-intensive technology is undesirable; only an increase in consumption through better productivity is the desirable solution. Or, cost of production hence interest rates should decrease, not increase. We may divide consumption under three categories essentials, comfort goods and luxuries. Improvements in technology cut down employment in the production and supply of essentials. For instance, modern technology enables one farmer to produce enough to feed fifty or even a hundred families. It enables fewer people to produce and supply energy; modern transport

enables many more people to move than did animal drawn vehicles. The same is true of comfort goods, too. Modern farmers produce much more milk and vegetables than their forefathers did; modern industries need much less people to produce industrial goods; McDonald's need less people to serve tea or coffee than do wayside tea shops. Hence, technology is truly an employment destroyer. At the same time, technology does make things cheaper and hence allows even the poor to consume more. Thereby, it increases consumption. On the whole it makes an economy more prosperous, even though it reduces the employment needed to produce essential goods and comfort goods. Luxury goods, particularly luxury services, are a different matter altogether. Once, a journalist counted twenty-four persons who helped him to have lunch in the luxury hotel Savoy in London. Luxuries are expensive because, and essentially because, they need more people. Luxuries create and multiply employment. Hence, though it may sound anachronistic, the cure to unemployment lies in promoting the consumption of luxuries. At the same time, we should not forget that luxuries are relative for a hungry person, food, even a plain meal, is a luxury; for a middle class person, a holiday is a luxury; for the very rich, personal attendants are a luxury. Incidentally, public goods like security, roads, energy and water supply are luxuries for all the fact they are luxuries is realised only when they fail. President Eisenhower is said to have prevented large-scale unemployment immediately after World War II by promoting construction of highways. Investment in highways, telecommunications, energy supplies, water and sanitation increases some employment directly but does much more indirectly. Thus, investment in public goods is a good idea. COMBATING INFLATION If inflation is the main worry, it can be cured in two ways: negatively by reducing prices (i.e., raising interest rates) or positively by increasing incomes (i.e., by increasing employment). Milk and petrol are 40-50 times more expensive than what they were 40 years ago. Yet, their consumption is far higher, only because incomes have risen faster. Thus, the remedy for inflation lies more in increasing employment and hence consumption rather than by raising interest rates to make money costlier. If a compromise is desired, the Reserve Bank can operate a two-part regime: Low interest rates for public goods like mass transport, roads, energy, water supply, sanitation as well as for housing the poor. That is already happening with the Delhi Metro and with highly inefficient subsidies for the poor. Incidentally, all these are long-term projects. Therefore, I suggest that instead of subsidies, all long-term rates be kept low (at 2 per cent?) whereas the Bank may toy with short-term rates in any manner it likes.

Inflation can be tackled in two ways raising interest rates and curbing demand, or creating jobs and raising productivity. The remedy lies more in the latter, even as everyone seems bent upon persisting with the former.

This is 312th in the Vision 2020 series. The last article appeared on September 10.

Food inflation rises to 9.13%; Pranab terms it a grave concern' OUR BUREAU SHARE PRINT T+ Prices of gram, pulses, vegetables, fruits and fuel too up

New Delhi, Sept. 29: Higher prices of gram, pulses, vegetables and fruits have pushed food inflation beyond 9 per cent again. It stood at 9.13 per cent for the week ended September 17 against 8.84 per cent a week ago. The increase is mainly due to a 6 per cent increase in the price of gram and 2 per cent in the prices of masur, arhar, urad, poultry chicken, condiments, spices and fish. Prices of fruits and vegetable, maize, jowar and milk rose by one per cent. During the week under review, fuel inflation rose to 14.69 per cent from 13.96 per cent. Fuel inflation has risen due to the higher prices of petrol, light diesel oil, and aviation turbine fuel. Public sector oil marketing companies had raised petrol prices by Rs 3.14 a litre from September 16. The Reserve Bank of India (RBI) had said that this would have a direct impact of 7 basis points on inflation, in addition to an indirect impact with a lag. Commenting on the latest figure, the Finance Minister, Mr Pranab Mukherjee, said, food inflation is perilously close to the double-digit mark. The rise in food inflation is a grave concern.

The Chairman of the Prime Minister's Economic Advisory Council (PMEAC), Dr C. Rangarajan, has termed the current level of inflation as very high. The Reserve Bank can't reverse its current stand until inflation falls, he added. The RBI, while announcing the mid-quarter review of the monetary policy on September 16, said, A premature change in the policy stance could harden inflationary expectations, thereby diluting the impact of past policy actions. It is, therefore, imperative to persist with the current anti-inflationary stance. Overall, the headline inflation rose from 9.2 per cent in July to 9.8 per cent in August. The new combined (rural and urban) consumer price index rose to 110.4 in July from 108.8 in June. Other consumer price indices registered inflation rates in the range of 8.4 per cent to 9.0 per cent in July. Monetary policy not the answer to inflation Policies such as better irrigation and farm extension strategy would be non-inflationary. Inflation is at the centre of the macroeconomic policy debate today. At such moments it is customary for the Indian policy establishment to look to the Reserve Bank of India for action. The RBI has now raised the repo rate for the 12 {+t} {+h} time in fifteen months. It has claimed that this is intended to anchor inflationary expectations . This buzzword from the more conservative strand of Anglo-American economics may be sufficient to soothe the gullible. The question, however, is whether we have a reasonable expectation of the power of monetary policy to tackle inflation of the kind that we are witnessing. WHAT'S DRIVING INFLATION It is apparent from the data that we have a good enough understanding of what lies at the bottom of it. It is mainly the relative price of food. If we partition the time series on inflation from the year 1991-92 to the present to arrive at three 6-year phases over 1992-2011, we would find that the trajectory of inflation over the 3 phases is mimicked by the movement of the relative price of food articles. We may invest our understanding with some confidence, for the inflation rate has actually fluctuated over this period being lower in the middle phase and yet the relative price tracks this movement quite faithfully. From the point of view of realistic assessment, short of imports, there is no near-term cure for a food-price driven inflationary process. In terms of a standard analysis we would need agriculture to expand via outward shifts in the supply curve implied by productivity increases. This is the route taken by the West historically. It has actually led to a declining relative price of food. This form of expansion would require non-price policies such as extending irrigation and strengthening extension, which are yield enhancing. Such a strategy would be non-inflationary.

Itbeing pursued seriously in India is, however, hostage to the dictates of political economy, i.e., its beneficial impact comes some years down the line while the electoral cycle is limited to five. As we have since 2008 been in a regime of slowing growth and rising inflation it can hardly be claimed that the inflation is due to overheating'. This recognition gives us an insight into the potential of macroeconomic policy, particularly monetary policy, in the present context. The current inflation is driven by the relative price of food, and money cannot affect relative prices. Therefore, the claim that the central bank can smother inflation by anchoring expectations holds no water. Rational expectation with the term being used in a substantive as not the descriptive mathematical sense of the short-run price in a commodity market is governed by expectations of the central authority's ability and willingness to use stocks. Stocks of pulses and milk the Indian central bank does not possess in any case, and the central government has shown itself to be unwilling to use foodgrain stocks to stabilise prices for fear of alienating the farmers. EFFECTS OF RATE HIKES We need to recall how monetary policy works. Administered interest rate changes, among which would count a hike in the repo rate by the RBI, can affect the level of inflation, if at all, only by lowering the rate of growth of output. It is important to stress that, if cost-plus pricing prevails in industry, the slowing of industrial output growth can have only a marginal impact on industrial price inflation. It may have some impact on foodgrain-price inflation though, as the demand stemming from industrial growth would have slowed. This at any rate is the theory. The recent experience from India, i.e., slowing industrial growth coinciding with rising inflation, suggests that the premise of a monetary-policy cure for an agricultural-price-driven inflation is questionable, to say the least. The inefficacy of a monetary-policy intervention allegedly aimed at anchoring inflationary expectations is, however, the lesser evil in relation to what it might end up achieving in the real world. To appreciate this fully we would need to engage with some propositions put out by the Harvard economist Robert Barro. Barro had claimed that, in a world where inflation is determined by variations in money growth engineered by the central bank, agents form their expectation based on the anticipated money growth alone. So when the central bank announces the future rate of growth of money agents all would merely adjust their expectation of inflation accordingly, leaving output growth unchanged. It is not difficult to see that this fanciful account can have little purchase with India's savvy firms. Where firms base their investment plans on anticipated aggregate output, the source of demand for their own product, an interest rate- based anti-inflation policy would result in lowering output without necessarily lowering the inflation rate. Note that the central bank would have, through its actions, anchored expectations, but of output, and the firms would have been perfectly rational in their anticipation.

This is cold comfort indeed. So the next time you hear it said that we can fix inflation in India if only the RBI were to show a little more resolve, be aware of this prospect. The RBI has raised the repo rate repeatedly since the onset of the current inflation. If there is an episode giving us reason to believe that monetary policy is powerless in the face of a supply-driven inflation it is this, it is this, it is this . We need to get real about economics. Public institutions responsible for policy are expected to remain beyond cognitive capture.