Rising inflation could singe India—not just West

The decoupling of business cycles is a myth. In today’s interconnected world, international transmission of shocks is inevitable. Photo: HT
The decoupling of business cycles is a myth. In today’s interconnected world, international transmission of shocks is inevitable. Photo: HT


  • Global efforts to treat elevated prices are set to slow economic growth down and create adverse conditions for all economies.

The threat was always there. A smooth escape from a raging fire is never easy. Since the spring of 2020, plenty of cheap money has been poured in to douse the pandemic fire. The historical record of the global recovery from the 2008 financial crisis suggested it was a safe option. However, some of the assumptions went wrong this time.

While demand increased, supply remained deficient. The disruption to production chains due to the pandemic shock has persisted. The Russia-Ukraine war that began in February this year created another negative supply shock, as seen in the elevated price of oil. Russia, the aggressor, is the third largest producer of this commodity.

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The result was that cheap money put out the covid fire, but severe inflation burns are now visible. Sometimes burns get worse before they get better. Inflation is still climbing. In the US, for example, retail inflation remains above 8%, more than four times the country’s target.

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The only treatment to lower inflation, in the absence of a swift rise in supply, is to pull back excess money, raise interest rates and lower demand. That is what central banks are doing now. The treatment is aggressive, but this does not mean that healing would be immediate. Given the lags involved in monetary policy transmission, it would take time to cool down inflation.

From over 6% last year, the world economy is likely to grow by 3% in 2022, as per projections of the International Monetary Fund (IMF). It will slow further next year. The US, EU, UK and Japan are among the countries expected to go through a recession. The Chinese economy is also expected to slow down.

Should India be worried? The decoupling of business cycles is a myth. As history suggests (see the graph), in today’s interconnected world, international transmission of shocks is inevitable. The Indian economy is therefore likely to slow down next year. The only questions are how fast and how much.

As the pandemic constraints eased, the Indian economy rebounded. India’s gross domestic product (GDP) grew by 8.7% in real terms in 2021-22, after a contraction of 6.6% a year earlier. But this was not a spectacular rebound; many used to believe India can grow 8-9% sustainably for years. The rebound on the back of such a severe contraction should have been higher. Now, with several major trading partners expected to enter a recession, India will feel the heat. The country’s exports will slow down both in volume and value. In value terms, exports of goods grew by 45% in 2021-22 to $422 billion, while services exports, led by information technology, rose by 23% to $254 billion. Preliminary trade data for August suggests merchandise export growth has been tapering off. The recession in the West would lower Indian tech companies’ earnings and result in cost-cutting measures. Job growth will slow down.

The median growth forecast in February 2022 by the Reserve Bank of India’s panel of professional forecasters was 7.7% for 2022-23. The latest August release reports the median at 7.1%. The next year’s GDP growth forecast is in the range of 5.0-7.8%. There is a debate in India over our official methodology of GDP calculation and hence the validity of our growth numbers. While the exact numbers can be debated, the direction cannot.

There is, however, a silver lining. While growth will fall, no one expects the Indian economy to shrink next year. On average, our real incomes and living standards would still be rising. The Indian government held back from providing an excessively large fiscal stimulus after the covid outbreak. This was a correct decision in hindsight. India’s inflation thus has not climbed to double digits though retail inflation hit 7% in August.

The challenge is to identify and implement policies that may help lower the pain of slowdown. Averages hide the underlying heterogeneity. For some, next year will actually be tougher.

The continued emphasis on easing structural constraints, particularly in urban infrastructure, education and healthcare, should pay off in a few years. India’s singular problem right now is quality job creation. We need to encourage startups to become big businesses. They need to scale up to generate quality jobs. Today’s big business needs to be encouraged as well, without any compromise on appropriate regulatory supervision.

Matching jobs with people is not easy. Higher education rates are on the rise in India, but not necessarily employability. Once armed with degrees, even low-quality ones, the youth aspire to get better jobs. The country’s new education policy rightly concentrates on building skills. We need to implement it effectively.

In the meantime, an economy growing at about 6-6.5% on average but with more stability and lower inflation could be a better option than aiming for 8-9% but volatile growth.

India may be slowing, but will remain one of the fastest-growing economies for years to come. That would be no mean feat at a time when political and social conflicts have become a norm in large parts of the world.

Vidya Mahambare & Praveen Kumar are, respectively, a professor of economics and director (research), and graduate of Great Lakes Institute of Management, Chennai.

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