Imported Inflation

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17 Apr Imported Inflation

Posted at 17 Apr 2024 in Current Affairs by
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THIS ARTICLE COVERS ‘DAILY CURRENT AFFAIRS’ AND THE TOPIC DETAILS “IMPORTED INFLATION”. THIS TOPIC IS RELEVANT IN THE “ECONOMY” SECTION OF GS3 IN THE UPSC CSE EXAM.

 

Why in the news?

Recently, Asian Development Bank highlighted that India could face Imported inflation and the depreciation of rupee due to global conflicts happening in Ukraine and Middle east.

What is imported inflation?

Imported inflation refers to the increase in domestic prices of goods and services caused by the rising cost of imported inputs or finished products. It occurs when a country’s currency depreciates relative to the currencies of its trading partners or when global commodity prices rise. 

For example, if the cost of imported oil rises, it can lead to higher transportation costs, which may then translate into higher prices for various goods and services throughout the economy.

Factors which contribute for imported inflation

Several factors can contribute to imported inflation:

  1. Exchange Rate Fluctuations: can increase the cost of imported goods and services. If a country’s currency depreciates relative to the currencies of its trading partners, the cost of imports increases, leading to higher prices for imported products. This phenomenon is particularly relevant for countries that heavily rely on imports for consumer goods, raw materials, or intermediate inputs. For example recent inflation in India because of U.S. bank rate hikes.
  2. Global Commodity Prices: Many countries rely on imported commodities such as oil, metals, and agricultural products. Changes in global commodity prices can directly influence the cost of imports and subsequently affect domestic inflation. For instance, a surge in oil prices can lead to higher transportation costs and production expenses, resulting in increased prices for various goods and services.
  3. Trade Policies and Tariffs: Trade policies, including tariffs and quotas, can affect the cost of imports. Imposition of tariffs on imported goods raises their prices, leading to inflationary pressures. Additionally, retaliatory tariffs between trading partners can disrupt supply chains and increase costs for businesses, ultimately contributing to imported inflation.
  4. Supply Chain Disruptions: Disruptions in supply chains globally, such as natural disasters, geopolitical tensions, or pandemics, can lead to shortages of goods and services. When demand is higher than supply, prices rise, contributing to imported inflation. Supply chain disruptions can also increase transportation and logistics costs, further exacerbating inflationary pressures.
  5. Domestic Demand for Imports: Strong domestic demand for imported goods and services can drive up their prices, especially if supply cannot keep pace with demand. This situation can occur during periods of robust economic growth or when consumers prefer imported products due to quality or brand preferences.
  6. Imported Wage Pressures: In some cases, imported inflation can also result from wage pressures in other countries. If labor costs increase in key exporting countries, the prices of imported goods produced in those countries may rise, contributing to inflation in importing countries.

What steps can we take?

Addressing imported inflation requires a combination of monetary, fiscal, and trade policies. Here are some strategies that policymakers can employ to tackle imported inflation:

  1. Monetary Policy: Central banks can use monetary policy tools, such as interest rate adjustments, to manage inflationary pressures stemming from imported inflation. If imported inflation becomes a significant concern, central banks may raise interest rates to reduce domestic demand and dampen inflationary pressures. Conversely, if the economy is experiencing other headwinds, central banks may choose to maintain accommodative monetary policy while closely monitoring inflation dynamics.
  2. Exchange Rate Management: Governments and central banks can intervene in currency markets to stabilize exchange rates and mitigate the impact of currency depreciation on imported inflation. This intervention can involve buying or selling foreign currency reserves to influence exchange rate movements. Additionally, policymakers may implement measures to improve currency stability, such as adopting exchange rate pegs or bands.
  3. Trade Policies: Governments can adjust trade policies to address imported inflation. This may include reducing tariffs or import duties on certain goods to lower their prices for consumers. Conversely, policymakers may consider imposing temporary tariffs or quotas on specific imports to protect domestic industries or address unfair trade practices that contribute to inflationary pressures.
  4. Supply-Side Measures: Policymakers can implement measures to enhance domestic production capacity and reduce reliance on imports. This involves investing in infrastructure, technology, and education to boost productivity and competitiveness in key industries. By increasing domestic production, countries can mitigate the impact of imported inflation on consumer prices and improve resilience to external shocks.
  5. Supply Chain Management: Governments and businesses can work together to strengthen supply chains and reduce vulnerabilities to disruptions. This may involve diversifying sourcing strategies, investing in inventory management systems, and enhancing coordination among suppliers and logistics providers. By improving supply chain resilience, countries can minimize the transmission of inflationary pressures from global markets to domestic economies.
  6. Demand Management: Policymakers can use fiscal policy tools like, taxation and government spending, to manage domestic demand and mitigate inflationary pressures. For example, targeted fiscal stimulus measures can support sectors facing supply constraints or encourage investment in productive capacity. Additionally, policies aimed at promoting savings and reducing consumption can help moderate demand and alleviate inflationary pressures.

Some Basics:

CONSUMER PRICE INDEX AND WHOLESALE PRICE INDEX

The Consumer Price Index (CPI) stands as a crucial indicator for tracking shifts in the prices urban consumers pay for a designated basket of goods and services over time. This index holds significant importance as it offers insights into inflationary patterns within the economy, serving as a key reference point for policymakers, economists, and investors alike to assess changes in the cost of living for citizens.

The computation of the CPI in India falls under the responsibility of the Central Statistics Office (CSO), an integral part of MoSPI. Drawing from a predetermined assortment of essential items, the CPI reflects the evolving prices of goods and services crucial to daily urban life. This selection encompasses a diverse range of necessities, spanning from food essentials and housing costs to transportation expenses, medical services, educational fees, and other vital expenditures.

WPI:

The Wholesale Price Index (WPI) stands as a critical indicator for monitoring changes in the average prices of goods at the wholesale level over time. This index serves as a valuable tool for assessing inflationary patterns within the economy and is extensively utilized by policymakers, economists, and businesses to analyze shifts in production costs and overall price levels.

Administered by the Office of the Economic Adviser under the Ministry of Commerce and Industry, the WPI encompasses a wide array of commodities traded in bulk, spanning raw materials, intermediate goods, and finished products. Unlike the Consumer Price Index (CPI), which focuses on retail prices paid by consumers, the WPI primarily reflects price movements occurring at wholesale level.

 

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