ASIAN DEVELOPMENT BANK

AsiAn Development BAnk6 ADB Avenue, Mandaluyong City1550 Metro Manila, Philippineswww.adb.org

Understanding tHe HigH inflation trend in indiaAshima Goyal

adb south asiaworking paper series

no. 24

March 2014

Understanding the High inflation trend in india

A variety of tests and estimates suggests that structural features of India’s growth and inflation show symptoms of chronic cost shocks and an elastic aggregate supply. The problem is compounded when aggregate demand is lowered as this tends to reduce growth more than inflation. The latter is best addressed at the level of the propagation mechanisms that increase cost. Some of these mechanisms are examined in this paper, including food price and wage inflation, sectoral bottlenecks, sharp depreciations, and failure of governance.

about the asian development Bank

ADB’s vision is an Asia and Pacific region free of poverty. Its mission is to help its developing member countries reduce poverty and improve the quality of life of their people. Despite the region’s many successes, it remains home to approximately two-thirds of the world’s poor: 1.6 billion people who live on less than $2 a day, with 733 million struggling on less than $1.25 a day. ADB is committed to reducing poverty through inclusive economic growth, environmentally sustainable growth, and regional integration.

Based in Manila, ADB is owned by 67 members, including 48 from the region. Its main instruments for helping its developing member countries are policy dialogue, loans, equity investments, guarantees, grants, and technical assistance.

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ASIAN DEVELOPMENT BANK

AsiAn Development BAnk6 ADB Avenue, Mandaluyong City1550 Metro Manila, Philippineswww.adb.org

Understanding tHe HigH inflation trend in indiaAshima Goyal

adb south asiaworking paper series

no. 24

March 2014

Understanding the High inflation trend in india

Recent Indian growth and inflation can be explained if aggregate supply is elastic but subject to upward shocks. Estimations of aggregate supply and other formal tests support such a structure. But then, reducing aggregate demand lowers growth more than inflation. The latter is best addressed at the level of the propagation mechanisms that push up the cost. Some of these, such as food price and wage inflation, sectoral bottlenecks, sharp depreciations and governance failures are examined. There is a role for monetary tightening to anchor inflation expectations that push wages up. It can be mild, however, if supported by supply-side initiatives.

about the asian development Bank

ADB’s vision is an Asia and Pacific region free of poverty. Its mission is to help its developing member countries reduce poverty and improve the quality of life of their people. Despite the region’s many successes, it remains home to approximately two-thirds of the world’s poor: 1.6 billion people who live on less than $2 a day, with 733 million struggling on less than $1.25 a day. ADB is committed to reducing poverty through inclusive economic growth, environmentally sustainable growth, and regional integration.

Based in Manila, ADB is owned by 67 members, including 48 from the region. Its main instruments for helping its developing member countries are policy dialogue, loans, equity investments, guarantees, grants, and technical assistance.