Home >Opinion >Increase productivity and lower cost of capital

Indian economy has been suffering from high inflation for some time now. All inflation is a monetary phenomenon, according to economist, Milton Friedman. Inflation rises when marginal demand exceeds marginal supply. It is influenced by various factors such as interest rates, money supply, productivity gains, and even credibility of the central bank and the expected future inflation. These are some of the time tested views of economists on inflation. A practical view, however, is that inflation is seasonal in the medium term as a high base effect prevails on the year-on-year calculations. Fruits and vegetables, for example, contributed significantly to the inflation in recent months, along with diesel and milk.

I observed some interesting points while buying fruits and vegetables from vendors in a small lane in a Mumbai suburb.

Within roughly a kilometre there were multiple vendors selling similar stuff—vegetables and fruits. Few of them were were concentrated together to create a small market place. Some others were scattered to enhance reach. But most vendors were running on a substandard scale, and elimination of a few would not make a material difference to the service being offered. Mostly there was no differentiation between their products or services, and hence, customer loyalty was limited.

Most of them go to the wholesale vegetable and fruits markets in Dadar, Navi Mumbai and Byculla on a daily basis to get their supply.

Most of them do not have adequate capital, and don’t have access to banking services. So, when they have surplus funds, they don’t earn much interest on it. But when they are in need of money, they borrow from the unorganized sector at an exorbitant cost. In a city like Mumbai, vegetable vendors pay 10% interest per day. Mostly, they are paying this exorbitant rate of interest for borrowing small sums of money for working capital. However, their credit track record is pretty impressive and would certainly fetch them a high credit score if they were assessed for it. The other common point is that they usually go by train to various markets but bring back their purchases in a cab. The cost of transportation is high as a passenger vehicle is used for ferrying goods.

The wastage ratio is also quite high as their products are highly perishable, and there is no protection against oppressive heat other than sprinkling of water and staying in the shade. The wastage ratio goes as high as 25-30% for some products. Wastage leads to lower realization (though higher healthcare cost for those who may have bought those fruits and vegetables) as a lot of such produce is purchased by small eateries.

Then there is the constant challenge of operating in an unlicensed manner, which involves having to give protection money to both official and unofficial agents. A migrant vendor ends up paying higher protection money than a local vendor.

Gainful employment lasts for probably a few hours of the day. Disguised unemployment is visible in most places. But one has to work every day to earn. There is no holiday for them. In fact, holidays, vacations and festivals, along with natural factors such as rain and heat, and human factors such as bandhs make their business model volatile.

Pricing becomes dynamic to factor in the wholesale price, transportation cost, overheads, wastage, financing cost and profit margin. While there is enormous flexibility here, it is directly linked to volume. At higher prices, customers walk out or reduce or postpone their purchases.

Local reach is what distinguished these vendors from organized retail. The latter, however, scores in terms of pricing and experience. Competition from online vendors is still not there. Moreover, retail level pricing can fall significantly.

If vendors could be organized for bulk buying, say, for a limited area, it would give them bargaining power at the wholesale market to source their goods cheaper and more efficiently.

If the goods could be transported in a commercial carrier in bulk, the cost of transportation would be reduced for everyone. It would also free up manpower for half the day to do some other work.

If the vendors had access to refrigeration, modern packaging and storage, it would reduce wastage and free up labour for other productive work. But this would require financing for capital investment.

Financing cost could come down dramatically if the vendors had comfortable access to organized financing either through the banking channel or through micro-finance institutions. As of now, they pay on a daily basis what is paid annually in the organized sector and with a similar credit record. Availability of finance would also help them invest in capital assets to enhance productivity and cut wastage.

Simple law enforcement encourages entrepreneurship rather than restricting it. For these vendors, it would reduce the nuisance of protection money and free them to do their work.

Rent seeking and low productivity has contributed significantly to inflation in India. We need to invest in creation of capital assets to enhance productivity, and provide cheaper financing to retail distributors so that prices can come down at the consumer level.

After Mint: Indian Consumer Price Index (CPI) inflation calculates housing cost based on rent allowance rather than market rentals. Most salary hikes are anchored on CPI inflation. This creates a vicious cycle of higher inflation. India does not account for features enhancement or improvements in products while calculating inflation, a global practice.

There is a mathematical way to bring down inflation in the near term if we adopt global standards of calculating inflation.

Nilesh Shah, managing director and chief executive officer, Axis Capital

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