While the Union Government has constituted a committee of bureaucrats to go into the economic impact of the Russian intervention in Ukraine, a preliminary reading of the US sanctions imposed by the Department of the Treasury indicates that, as of now, it is the spike in global crude and edible oil prices and its consequences for inflation that should worry Indian policymakers.
The US has not imposed any sanctions against Russia, as a country. Two prominent Russian banks — VTB and Sberbank — and a host of other financial institutions and individuals are the ones named in the sanction orders as per the official site of the US Department of the Treasury.
Those who are aware of the way the foreign exchange markets operate would understand that this will effectively cut off transactions of these banks with the rest of the world through what is known as the OFAC list (Office of Foreign Assets Control) of the US.
As I write this, news also has come in that steps have been taken to cut off the Russian Central Bank and other banks already named in the OFAC list from the SWIFT itself which will be a major blow for Russia as it will not be able to use the SWIFT messaging system for settling currency transactions. The Society for Worldwide Interbank Financial Transactions (SWIFT) is the only means by which, as of now, interbank international transactions are routed.
Therefore, it is clear that the West led by the US is tightening its financial screws without going into any military response to the Russian intervention in Ukraine. Since this is a developing story one has to wait and see how things unfold. It is also noteworthy that Russia has offered negotiations which lends credence to the views of persons like Ambassador K.P. Fabian that President Putin would not want a prolonged conflict.
Impact on India
As of now what do these developments portend for India in economic terms? India’s traditional resilience — we withstood even sanctions against us, in the wake of the Vajpayee-authorised Pokhran explosions in 1998 — and its much-improved international stature and strength on the external front, as compared to the last century, including the current huge forex reserves ($ 630 Billion) and low level of external debt, should see us through, if the Ukraine crisis does not deteriorate into a larger multilateral war.
For an understanding of how low our Government indebtedness to the external sector is, please have a look at the table below:
So, it seems that the only adversity we have to guard against is the imported inflationary cost of the Russian action. Domestic pump prices of petrol and diesel have been quiescent for more than 3 months even as crude prices have dallied with the $100 per barrel level. The general expectation is that the oil companies may act sooner than later, maybe by next week-end.
This will have an impact on price levels in the country. Also, we have to reckon with the increase in edible oil prices. We Indians literally drink edible oil, with a per capita consumption of more than 12 kg per annum!. The edible oil bill last marketing year was above Rs 1 trillion as compared to about Rs 75 lakh crore the previous year.
We import sunflower oil from Russia and Ukraine (Sundrop is a brand that comes to mind immediately, as the owners of this brand depend on imports from Ukraine), almost 90% of our requirement. Already, international edible oil prices have hardened in response to Ukraine and this bodes ill for inflationary pressures.
The standard response to an uptick in inflation is to tighten interest rates. I for one believe that in India inflation is a “supply side” phenomenon and not linked to money supply or the demand side. “I don’t personally believe in targeting inflation, particularly in developing countries like India, where 60 per cent of the Consumer Price Index (CPI), which matters more to the common person, is from food prices,” former RBI governor Bimal Jalan had said a few years ago. Another illustrious former Governor, Dr Y.V Reddy had also alluded to the RBI’s limitations in inflation-targeting as food and fuel have a high weightage in the inflation index. These have nothing to do with monetary policy.
Therefore, the only action the RBI should not do as of now is to tighten interest rates in the vain belief that the MPC has the power to rein in inflation. In other words, the MPC should realise its limitations vis-à-vis price control in the grocery and supermarkets, which is what inflation means to the common man.
The appropriate response now would be to concentrate on the Government keeping a watchful eye on food prices (mainly edible oils and pulses). If required, the Government could ask central agencies like NAFED to import and sell directly so that inflationary expectations are quelled. Even an announcement that the Government will intervene in all possible ways to keep food prices in check will do the trick.
Fuel is a different ball game. We have very little options. The budget announcement in favour of ethanol-blended fuel (to cost less by Rs 2 at pump level) and other similar initiatives need to be pushed forward. If there is any sector, where the theme of “Atma Nirbharta” is relevant, it is in the “energy”sphere. A country of 1.3 billion people, which is also one of the youngest in the world, needs to find alternatives to imported fuel and guzzling it irrespective of pump prices.
As of now, it is inflation that could affect our growth ambitions in the wake of the Russian intervention in Ukraine. But given our political stability, traditional resilience of our people to cope with crises and the overarching wisdom of our policymakers post-1991, India will deal with the new dynamics too and step out successfully, given our macro economic strengths. The India of 2022 is a stronger, resilient, more confident nation.
(S Adikesavan is a top executive with a bank. Views are personal)