Inflation,BonddevolvementandThomasPiketty

It is going to be a busy week with a number of central banks across the world coming up with their rate decisions. The US Fed and Brazilian Central Bank will announce their calls on Wednesday. In Brazil rates are at historic low of 2% and already negative in real terms similar to the Fed Funds rate which has also reached its so called theoretical boundary of zero percent. Later in the week we will also see BOJ, BOE, South Africa Reserve Bank, Russian Central Bank and Indonesian Central Bank coming with their rate trajectories. With pandemic induced damage still at the forefront, central banks would try to balance growth imperative with inflation concerns. In places where the rate cutting has maxed out, innovative solutions (read direct monetization) need to be devised to support growth.

Domestically we will have the all-important inflation number (CPI) coming out today. The expectation is around 6.9% which is still above the comfort range of the RBI, tying its hand on further cuts. Readers would note that since the time the Fed announced its average inflation targeting regime we have written extensively on the phenomenon of inflation - like how it works and what the issues can be if it remains unchecked. Today we think a historical detour is in order to add to our previous discussions.

French economist Thomas Piketty in his magnum opus Capital in the Twenty First Century chronicles the changing face of capital in the modern society. He touches the primary issues of growth and inflation which impact the formation of capital in society. Writing about inflation, Piketty says that until the early part of the tentieth century (start of WW I) the inflation was non-existent. With all the currencies effectively tied to some kind of metallic anchor the purchasing power parity of the economies remained the same. The gold value of the French franc set in the year 1803 was not officially changed till the year 1928. Similarly, with the US dollar and British pound. In the absence of very detailed records one interesting area which Piketty resorts to show such stability of prices is the literary works of English and French novelists like Jane Austen and Honore De Balzac. He writes that in their works one can generally find references to prices of rent on estates or cost of labour, which show little change over a period of time. Though modern inflation is concerned with the price movement in a basket of goods, Piketty’s approach, however basic, gives a sense of direction.

We can also try our hand at examining the long term inflation in India riding on Piketty’s amusing approach, at least for one item of the inflation basket. In a 1992 Hindi movie the protagonist famously declares that the price for 4 eggs is 1 Re (25 paise for one egg). With the current prices standing at 6 Rs for an egg we would encourage our readers to calculate inflation of prices of at least one consumer staple in these 28 years. Don’t worry about the exactness, it is more about the sense of direction.

On Friday last week, the major domestic news was from the bond markets where close to 18000 Cr INR bonds of 5.79 2030 got devolved on the PDs at the cut-off rate of 6.02. The remaining 12000 Cr INR was subscribed by the markets. The devolvement, third in five weeks, indicates the Central Bank’s discomfort with high yields ascribed by the markets to the government paper. The RBI has announced measures like OT, increase in HTM limits to keep the yields in check, in the past. Markets would look for more such announcements from it now. The 5.77 2030 bond trades at 6.07 currently.