Understanding Stagflation and why CEA feels India is low risk


by 5paisa Research Team Last Updated: Jun 01, 2022, 09:15 PM IST

In a recent conversation, the Chief Economic Advisory to the government of India, Mr. V Anantha Nageswaran, highlighted that stagflation risks were much lower for India. According to Anantha Nageswaran, the Indian economy was relatively better placed compared to other peer group countries, especially when it came to the vulnerability of the Indian economy to the risk of stagflation. Let us first understand what this concept of Stagflation is all about.
 

So, what is stagflation all about?


As the name suggests, stagflation occurs when high inflation and slow economic growth happen at the same time. That is against the normal though process, but it does manifest at times. In other words, we normally equate medium inflation and high growth with high levels of employment.

However, here despite the low levels of joblessness, the inflation can be inordinately high and growth painfully low for a prolonged period of time. 

Most economies agree that India is not yet into stagflation but there is the distinct risk that the economy may slip into stagflation. That means growth could remain tepid and at the same time the inflation could shoot up. What happens in stagflation.

It increases financial risk. There is possibility of loss in income with rising unemployment as an outcome of weak growth. However, supply chain constraints ensure that inflation continues to remain high.

You can look at stagflation as a double whammy. High inflation means you are paying higher prices. At the same time high inflation enhances the GDP deflator and reduces the GDP in real terms.

Due to very high inflation, the level of economic activity falls and that leads to low growth and loss of jobs, further compounding the situation. Let us quickly look at what causes stagflation?
 

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It is not common to see stagflation as it only happens very occasionally. Normally, bad policy decisions combine with macro risks to create stagflation. It is never about just one side of the story.

In the US context, the too much government spending via helicopter money policies and very low interest for long periods of time can cause stagflation. To a large extent, that is the situation in India too.

The world saw stagflation last in the 1970s, when the oil embargo created a combination of high inflation and low growth. That has not happened prominently in the last 50 years but now economists across the globe are expecting that to happen.

COVID has led to huge spending by the governments and an attempt to keep the interest lows for too long, even it meant keeping it artificially low. But stagflation begins with unemployment rising.

In the current situation, stagflation may be caused by a number of intertwining factors. For example, uncertainty is quite high in the global economy and hence the threat of economic stagnation is real.

In the last few months, the Russian invasion of Ukraine and the renewed COVID-19 lockdowns in China threaten to further disrupt supply chains. Energy prices are already high and economies around the world are impacted. That is the worry.
 

Why the CEA things that India is safe?


Mr. V Anantha Nageswaran has underlined that the risk of stagflation was much lower in India as compared to other countries. According to Anantha, not only is the Indian economy more resilient, but even the financial sector is in better health. Recent data points have suggested that stagflation could happen in India.

However, the recent GST collections are still showing a lot of robustness and hardly any signs of GDP slowing down.

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