Indian politicians well understand that elections can be won or lost on onion prices. With only 83 million people in wage jobs in a country of 1.4 billion people, households don’t have much bargaining power over wages to cope with a higher cost of living. What is less appreciated is the differential impact of prices on producers, especially on small farms affected by the pandemic with low profit margins.
India’s wholesale price index, which tracks goods at factory gates, rose nearly 13% from a year earlier in January. The gauge has recorded double-digit increases for 10 consecutive months, even as the benchmark consumer price index, which also includes services, only recently breached the top of the bank’s tolerance range. central 2% to 6% annual earnings.
Still, the Reserve Bank of India is rather optimistic about future inflation and is keeping the market guessing whether interest rates will rise significantly this year. In doing so, the RBI is jeopardizing its credibility for a little extra growth. Is this trade-off worth it if higher prices end up putting small businesses out of business?
Think of the 7% difference between the pace of wholesale price inflation and that of consumers as a cost squeeze. Not all producers can cope with this pressure with the same ease. In the September quarter, when the economy opened up after a second deadly wave of the pandemic, smaller manufacturers of daily consumer goods captured only 2% of the growth in the value of sales compared to the previous year. Large companies took 76%, with medium-sized companies accounting for the rest, according to NielsenIQ.
According to the data provider, pressures on input costs have forced producers to raise prices, especially for food products and cooking media. “This has severely affected small manufacturers,” NielsenIQ says in its report. Companies with sales of 1 billion rupees ($13 million) or less supply almost a fifth of India’s commodity market. In the third quarter of 2021, they were 14% lower than a year earlier.
Some may have folded due to pandemic-related disruptions. Others go bankrupt because, unlike their larger competitors who can absorb some of the escalating raw material costs, the already strained finances of small businesses force them to try to pass the increases on to consumers. Few people succeed. An industry association has warned that a third of India’s edible oil refining capacity could close – and move to Indonesia or Malaysia – because it is cheaper to import oil refined.
Prices for edible oil, aluminum, tinplate, plastic, paper and glass are near their highest in a decade, while those for coffee, sugar, wheat and milk are above their 10-year average, Mumbai-based brokerage Prabhudas Lilladher noted last week in its analysis of Nestle India Ltd’s December quarter results. As product and packaging costs soared, the maker of Maggi, Nescafé and KitKat sacrificed 210 basis points in gross margins to boost revenue by 9% year-on-year. He squeezed payroll and overhead costs to keep operating profitability—the ratio of earnings before interest, taxes, depreciation, and amortization to sales—intact.
Small businesses don’t have that kind of stamina. Many of them made use of a government credit guarantee to access new loans to survive the worst of the pandemic. According to economists at the State Bank of India, the safety net has prevented $24 billion in credit to micro, small and medium enterprises from going bad, protecting the livelihoods of as many as 15 million workers.
However, these companies are not exactly out of the woods. When it comes to servicing their debt, credit bureau TransUnion Cibil estimates that 18% of borrowers were in worse shape in March 2021 than when they took out the emergency loans.
Big companies are flexing their marketing muscles. Unilever Plc’s Indian unit recorded its highest market share gain in a decade during the December quarter. But as financially constrained small manufacturers lay off workers, people’s purchasing power threatens to erode further, hurting weak consumer demand and making it harder for other vulnerable producers to survive.
This is why the risk of stagflation is high in India. Price spikes in areas such as clothing and footwear, healthcare, transport and communications seem to be taking a structural turn and taking root. After two years of the pandemic, “the inflationary trend in these categories instead of easing has further increased even as consumer demand is weak,” said Sunil Kumar Sinha, an economist at India Ratings and Research Ltd.
The RBI pushes on a chain. Yes, the recovery of the national economy after Covid-19 is far from complete. Output in service industries is 24 percentage points lower than before the pandemic, according to Nomura Holdings Inc. But now it’s the job of fiscal policy, which is kept ultra-loose for a third straight year , to meet a deficient demand.
With Dated Brent crude oil at $100 a barrel for the first time since 2014 and the US Federal Reserve embarking on a major tightening campaign, the time for monetary adventurism is over. Letting domestic prices spiral out of control will not buy India additional growth. It will be quite the opposite if inflation ends up further ruining its small producers.
More from Bloomberg Opinion:
• Why did central banks get the inflation rate wrong? : Blas and Ashworth
• The inflation story doesn’t get any happier: John Authers
• India’s budget poses a risky stimulus package: Andy Mukherjee
This column does not necessarily reflect the opinion of the Editorial Board or of Bloomberg LP and its owners.
Andy Mukherjee is a Bloomberg Opinion columnist covering industrial companies and financial services. He was previously a columnist for Reuters Breakingviews. He has also worked for the Straits Times, ET NOW and Bloomberg News.