Impact of COVID-19 on inflation is ambiguous: RBI

COVID-19 would impact economic activity in India directly due to lockdowns, and through second round effects operating through global trade and growth, according to RBI annual policy report. The impact of COVID-19 on inflation is ambiguous, with a possible decline in food prices likely to be offset by potential cost-push increases in prices of non-food items due to supply disruptions, the RBI noted. Risks around the inflation projections appear balanced at this juncture and the tentative outlook is benign relative to recent history. But COVID-19 hangs over the future, like a spectre, RBI stated. Headline consumer price index (CPI) inflation breached the upper tolerance band of the target in December 2019 and peaked in January 2020, before ebbing prices of vegetables, fruits and petroleum products produced a downward shift of 100 bps in February. The trajectory of inflation in the near-term is likely to be conditioned by the pace of reversal of the spike in vegetables prices, the dispersion of inflationary pressures across other food prices, the incidence of one-off cost-push effects on various elements of core inflation and especially, the evolution of the COVID-19 outbreak. Looking ahead, three months and one year ahead median inflation expectations of urban households softened by 10 bps and 20 bps, respectively, in the March 2020 round of the survey conducted by the RBI. The proportion of respondents expecting the general price level to increase by more than the current rate also decreased for both three months and one year ahead horizons vis-à-vis the January 2020 round. Although largely adaptive, inflation expectations of households and firms can shape future inflation through price and wage setting behaviour. According to the Reserve Bank's consumer confidence survey for March 2020, inflation expectations moderated over the previous round.