WPI, CPI chart divergent paths even as post-lockdown trend reverses; core inflation festers

The dissonance points to recovering supply chains as well as pricing power of big companies.

The dissonance between headline wholesale inflation and retail inflation — with WPI now trending up even as CPI is moderating, a sharp reversal of the post-pandemic trend of sluggish WPI print and scorching CPI estimates — is being seen as an indicator of the economy opening up closer to full potential. The key contention, however, is turning out to be the sticky core retail inflation (prices rise in the non-food, non-fuel segment), reflecting the slow pace of recovery of smaller companies at the peripheries of sectors, even as a few big companies commanding a higher pricing power — all at a time when demand continues to remain subdued. Services sector inflation is yet another cause for worry, going forward.

Experts said that since supplies have now eased up and logistical constraints have become less, the supply to the final consumer has improved, and, thus, is a good sign with WPI picking up. But, few big companies in sectors such as fast-moving consumer goods, secondary manufacturing sectors such as construction steel, flat products have now better pricing power on the back of a faster recovery after the pandemic, which in a way is stoking core inflation and inflationary expectations even as headline print remains within the comfort zone of the Reserve Bank of India. Smaller companies and traders are struggling with working capital issues, resulting in lower capacity utilisation and lower margins.

The Minutes of the Monetary Policy Committee meeting held between December 2-4 had noted the anecdotal evidence of rising profits and profit margins, improving capacity utilisation and lack of new capacity additions creating ripe conditions for the oligopolistic core to start exercising pricing power. “Anecdotal evidence suggests that in several sectors which are characterized by an oligopolistic core and a competitive periphery, the oligopolistic core has weathered the pandemic well and it is the competitive periphery that has been debilitated. Rising profits and profit margins, improving capacity utilisation and lack of new capacity additions create ripe conditions for the oligopolistic core to start exercising pricing power. These are also the enterprises that are benefiting from borrowing at rates below the policy corridor through commercial paper issuance,” Jayanth R. Varma, Professor, Indian Institute of Management, Ahmedabad had said in the MPC meeting.

Headline retail inflation eased to a 16-month low of 4.06 per cent in January, well within the RBI’s medium-term target of 4±2 per cent and lower than the projection of 5.2 per cent for the January-March quarter. Core inflation remained sticky at 5.65 per cent in January, the same level as December. Wholesale inflation rate rose to a 11-month high of 2.03 per cent in January.

Former Chief Statistician of India Pronab Sen said that the inherent core inflation is still high because available supply of goods and services is perhaps falling even short of the weak demand. “The argument essentially is that during the lockdown and post-lockdown, a lot of companies had to shut shop, they laid off people. So even if the plant and machinery is the same, their capacity to produce is seriously down, and that comes from the unemployment figures. Basically we presume that if the physical capacity exists, supply should happen, but that is not fully correct. For supply to happen, they would need to get working capital, they would need to hire labour back, all of that has to happen. If not, then effective supply becomes lower,” he said.

Most manufacturing sectors have long-tail distribution, that is, 4-5 large companies and a huge number of small ones, which seem to have gone out of business, he said. “So whatever competition the large companies were facing, that level of competition has gone down,” he added.

Sen, however, said that companies would need some amount of inflation to recover a part of what they have lost. “They will need to have some amount of inflation to be able to recover a part of what they have lost. Except the problem in our country is whether or not the companies will get bank loans to restart business. That’s the main issue,” he said.

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