RBI paper calls for cautious monetary approach as food inflation bites

The Monetary Policy Committee (MPC) expects domestic growth to hold up on the strength of investment demand, steady urban consumption, and rising rural consumption

Persistence in food inflation has increased due to repeated climatic shocks of rising intensity and may impact non-food prices, a Reserve Bank of India (RBI) bulletin for August 2024 stated.

“The increase in food inflation persistence is driven by the secular upward drift in its time-varying trend, signifying rising expectations of higher food prices due to overlapping supply shocks. Empirical evidence points to spillovers to non-food components, which is being offset by disinflationary monetary policy,” the bulletin said. A time-varying trend refers to a variable that changes over time.

The RBI bulletin is issued monthly by its Department of Economic and Policy Research, under the direction of the Editorial Committee chaired by the central bank's Deputy Governor, Michael Debabrata Patra. The Central Board of the bank is not responsible for the interpretation and opinions expressed.

If high food inflation persists, a more cautious monetary policy approach is warranted to squelch the propagation of food inflation pressures in a more generalised inflation, it said.

“High food inflation is seeping into households’ inflation perceptions and expectations, with the potential for spillovers into non-food prices as demand for higher wages on cost-of-living considerations, and rising input costs are eventually passed on as higher output prices, especially in a scenario of strengthening aggregate demand,” the paper stated.

The Monetary Policy Committee (MPC) expects domestic growth to hold up on the strength of investment demand, steady urban consumption, and rising rural consumption. Risks from volatile and elevated food prices remain high, which may adversely impact inflation expectations and result in spillovers to core inflation.

The MPC, in its latest meeting on August 6, retained its real GDP growth forecast for FY25 at 7.2 per cent and inflation at 4.5 percent, while maintaining status quo on the policy rate at 6.5 percent along with the stance of withdrawal of accommodation.

“Expecting domestic growth to hold up on the strength of investment and consumption demand, the committee flagged risks from volatile and elevated food prices adversely impacting inflation expectations and potentially spilling over to core inflation, which showed indications of bottoming out,” the bulletin said.

In fact, the momentum of food prices at 2.5 percent in July, over and above the 2.7 percent momentum recorded in June, indicates continuing build-up of underlying price pressures within the overall food group. In terms of sub-groups, inflation moderated in cereals, fruits, vegetables, pulses, sugar, and non-alcoholic beverages, but edged up in meats, fish, eggs, and prepared meals.

“Adverse climate events remain an upside risk to food inflation. Assuming a normal monsoon, CPI inflation for 2024-25 is projected at 4.5 percent, with Q2 at 4.4 percent, Q3 at 4.7 percent, and Q4 at 4.3 percent. CPI inflation for Q1 2025-26 is projected at 4.4 percent. The risks are evenly balanced,” the bulletin stated.