FOOD INFLATION IN INDIA: TRENDS AND DETERMINANTS C.S.C. Sekhar Yogesh Bhatt Institute of Economic Growth NAARM-IFPRI-CESS Consultation workshop on Tackling food inflation in India: Towards a sustained solution November 28, 2014

PRESENATION OUTLINE 1.Current trends in food inflation 2.Long term trends from 2005 – annual and commodity-wise 3.Percentage contribution of different commodities 4.Effect of causal factors – supply, demand, external and policy factors

INFLATION TRENDS IN RECENT MONTHS

Possible factors behind recent lowering of food inflation  Base effect  Falling global prices  Liquidation of FCI stocks

HIGH BASE COMMODITIES

LOW BASE COMMODITIES

Important Previous Work  Mankiw (1995), Walsh (2011), Fischer (1993), Bruno and Easterly (1995)  Indian context – Mishra and Roy (2011), Chand (2010), Nair and Eapen (2012), Nair (2013), Gopakumar and Pandit (2014)  Most of the studies, except Mishra and Roy, take a small time horizon (2-3 years), few commodities and do not factor in years of low inflation.  Present study attempts to improve upon this body of work TRENDS IN FOOD INFLATION

Data Sources  There are mainly two data sources on inflation in India  WPI and CPI - We have used WPI measure because of availability over longer time period.

Weighing Scheme of Food Items Food items have weight of about 25% overall  Primary food articles (15%)  Manufactured food products (10%)

Weighing Scheme of Food Items (cont…) Within the food category the following have larger weight  Foodgrains - 19%  Fruits and vegetables – 18%  Milk – 15%  Edible oils – 14%  Eggs, meat and fish – 11%  Sugar etc – 10%  Grain mill products – 6%  Others – 7%

1) Food inflation is higher than overall inflation in 6 out of 9 years 2) Food inflation is above 7% for all years except 2005

Food inflation appears persistently high since drought year 2009

ANNUAL TRENDS

FOOD INFLATION TRENDS YearHIGH INFLATION COMMODITIESFPIComments 2005 Coffee(42), Onion (33), Tomato (22), Vegetables(14), Pulses(9), Cereals(5) 3Edible oils negative 2006 Pulses(33), Potato (31), Wheat(20), Coffee(21), Tea(17), grain mill prod(15) 7Edible oils turn positive 2007 Vegetables(25 - onion 101)), Coffee(12), Rice(10), Wheat(10), Gnut oil(29), SF oil(21), Soybean oil(16), Rp&mst oil(11), Fruits(6), Milk(6), Dairy prod(12) 7 Edible oils show strong inflation. Milk and diary products also. Sugar negative 2008 Tea(39), Coffee(15), Edible oils(10), Rp&mst oil(15), SF oil(7), Soybean oil(12), Fruits(12), Wheat(9), Rice(14) 7.6Sugar turns positive 2009 Sugar(47), Tea(30), Eggs(15), Vegetables(16 - potato 70, onion 43), Milk (14), Pulses(18), Rice(14), Wheat(11) 12 Sugar shows major increases. All foods show increase except oils Eggs(32), Milk(25), Fruits(19), Pulses(14), Wheat(8), Rice(8), Sugar(18), Dairy prod(13), Grain mill prod(8), Gnut oil(14) 14 Sugar and milk major increases. All foods, including rice &wheat show strong increases. Tea turns negative 2011 Coffe(31), Fruits(19), Eggs(12), Milk(10), Dairy prod(10), Edible oils(13), Rp&mst oil(13), Coconut oil(23), Soybean oil (20), SF oil(12) 8 Rice & wheat show moderation but edible oils increase 2012 Tea(23), Pulses(19), Eggs(16), Vegetables(15 - Potato 48), Wheat(10), Rice(9), Milk(10), Sugar(10), Dairy prod(7), Edible oils(10), Rp&mst oil (18), Gnut oil(20), Soybean oil(11) 8 Pulses show strong increase after a decline in the previous year. Wheat and rice also increase 2013 Vegetables(31 - onion 167, tomato 51), Rice(19), Wheat(14), Eggs(13), Tea(17), Grain mill prod(12), Tea proc(15) 10Oils show moderation Source: WPI, Office of the Economic Adviser, Ministry of Commerce & Industry, GoI

Summing up.. Year-wise Inflation Patterns 1)No commodity is showing uniformly high inflation. Different commodities contribute in different years 2)Indicative of no major structural problems with any particular commodity / group 3)Reason for worry - some of the major commodities i.e. cereals, sugar and milk show high inflation in most of the years

COMMODITY-WISE TRENDS

Foodgrains 1. Foodgrains: above 8% in 7 out of 9 years mainly because of cereals 2. Cereals: 7 out of 9 years above 8%, inflation is persistently high 3. Pulses: Erratic pattern, high dependency on imports

Edible Oils 1. Edible oils show erratic pattern 2. Inflation above 10% in only 4 out of 9 years 3. Interesting thing is that all the oils show similar trends in high inflation years , 2008, 2011 and This shows strong substitutability in consumption among the edible oils 5. Also shows the effect of world prices on domestic prices through large imports

Fruits and Vegetables 1. Fruits show high inflation of above 10% only in 3 out of 9 years 2. Vegetables show 10% or more in 7 out of 9 years 3. But because of higher weight of fruits (2.1 vis-à-vis 1.7 of veg.), overall inflation is above 10% only in 4 out of 9 years 4. Vegetable inflation persistently high from 2009, demand pressures and supply chain management appear critical

Vegetables 1. Vegetables show 10% or more in 7 out of 9 years 2. Vegetable inflation persistently high from one or the other vegetables is showing a very sharp increase 4. In 2010 and 11 onion and potato were low but tomato was high. 5. In 2012 potato shot up and in 2013 onion and tomato shot up sharply

Milk 1. Milk was steady at about 5% until Shot up sharply in the next 4 years to 10% or above to come down in 2013

Eggs, meat and fish 1. Eggs, meat and fish: Similar to milk. Was steady at about 5% until Shot up sharply in the next 5 years to 10% or above

Sugar 1. Sugar is very erratic 2. Price movements appear cyclical based on domestic production and international prices

DECOMPOSITION EXERCISE

MAJOR CONTRIBUTORS TO FOOD INFLATION – DECOMPOSITION EXERCISE

DECOMPOSITION EXERCISE (cont…)

Percentage Contribution

Inflation of Major Food Commodities Food Commodity Actual Weight in WPI Rice Wheat Gram Onion Banana Milk Egg, meat and fish Sugar Foof Price Index Source: WPI database, Office of the Economic Adviser, Ministry of Commerce & Industry, Government of India (GoI)

PERCENTAGE CONTRIBUTION OF DIFFERENT COMMODITIES TO OVERALL FOOD INFLATION COMM_NAMECOMM_WT AverageS.D. Rice Wheat Gram Onion Banana Milk Eggs, Meat and Fish Sugar Major Commodities Others ALL in this Group

DECOMPOSITION EXERCISE (cont…) Contribution by each commodity can be further decomposed into 1)weight of the commodity j 2)inflation of the commodity j 3)level of price of commodity j relative to overall food price index – base effect

RESULTS OF DECOMPOSITION

CAUSAL FACTORS - ECONOMETRIC ANALYSIS

ECONOMETRIC MODEL OF PRICE Price of a food commodity is determined by a complex interaction of supply, demand and policy and external factors. 1)Supply side - quantum of output produced, cost of the inputs, stocks carried over from previous year, imports from international market 2)Demand side - domestic use, income, exports and tastes and preferences 3)Policy factors - Administered prices (MSP, issue price), tariffs and trade restrictions (such as export bans and MEP) 4)External factors – world prices, supply-demand in major countries, weather in other countries

ECONOMETRIC MODEL OF PRICE  Simultaneous equation model framework (SEM) is appropriate for such analysis in view of the presence of simultaneity among production, consumption, trade and other variables. (Gopakumar and Pandit 2013, Sekhar 2003).  However, the number of commodities covered in the present study is much larger.  For many of these commodities, such as fruits and vegetables, data is not easily available on exogenous variables such as cost of production, world price etc which are necessary to test for the identification conditions in a SEM model  Therefore, we had to confine to a simple single-equation model as a first approximation. This should be understood as a preliminary first attempt and not as a detailed model of price formation.  A detailed model for each commodity in a simultaneous equation framework is a useful direction for future analysis.

ECONOMETRIC MODEL

Results Different causal factors are important for different crops.  Cereals (rice and wheat): Both supply (production, cost of production and stocks) and demand (total domestic use)  Pulses (arhar, gram) : Supply side factors such as cost and level of production and, imports are important.  Edible oil prices (gnut, plam, soybean, rp&mst): External factors (imports, world price) and demand side factors.  Milk and Powdered Milk: Demand side factors  Sugar: All the factors - supply, demand and external factors  Milled products: supply and price situation of wheat  Fruits and vegetables: Both supply and demand factors – although the relative importance may vary for each individual commodity.

CONCLUSIONS  Annual trends: Different commodities contribute in different years to food inflation and no single commodity shows uniformly high inflation. This indicates to the possible absence of any major structural problem with any single commodity.  Inflation in cereals, milk, eggs-meat-fish and vegetables is found to be persistently high.  Decomposition exercise shows that eggs-meat-fish, milk, cereals (rice and wheat) and sugar are the biggest contributors to food inflation since 2005.

CONCLUSIONS (Cont…)  When categorized on the basis of weight and inflation, major food commodities such as cereals, eggs-meat-fish, milk, fruits and vegetables are found to fall in the HWHI (high weight – high inflation) category  This shows that the inflation of these important food commodities is much higher than the median inflation. This is a cause for concern.  Econometric analysis shows that both supply and demand factors are important, although the relative importance may vary for different commodities.

CONCLUSIONS (cont..)  CoP increases appear important for cereals and pulses.  Although cereal stocks in general show a negative effect on market price, recent huge levels of procurement (> 30% of production) seem to have an adverse effect  For edible oils and sugar domestic and international factors appear important  For fruits, vegetables and milk, supply chain management and processing infrastructure are important

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