Tear-jerker: Unseasonal rain spikes inflation risk on steep onion prices

On November 27, the average wholesale price of summer onions jumped nearly 29 percent at Lasalgaon Agriculture Produce Market Committee, which is India’s largest wholesale onion market. The price increased to R4,260 per quintal on November 27 from Rs3,300 per quintal on November 25.

In October, retail inflation calculated based on Consumer Price Index (CPI) eased to 4.9 percent year-on-year from 5 percent in September. Food price inflation was unchanged at 6.6 percent year-on-year in October, with a broad-based, sequential rise in most food categories. Vegetable prices picked up 3.4 percent month-on-month partly due to the rise in onion prices in the latter half of the month, but broader food basket also faced higher prices for cereals, eggs, pulses, sugar and spices. 

Also read: Inflation Rate in India 2023: A closer look at economic trends

Onion has a weightage of 0.65 percent in the CPI basket. In July, tomato prices had seen a sudden spurt, rising 200 percent. A sharp jump in tomato prices sent the headline reading north of seven percent in July. Tomatoes, onions and potatoes are the most consumed vegetables in India and make up more than a third of the CPI vegetables category. Hence, any sharp movement in TOP prices influences the movement in CPI vegetables inflation.

Nomura economists see food price shocks to drive the headline inflation. However, they feel onion-price driven surge in headline inflation is unlikely to last, as similar episodes have typically lasted for 2-3 months, before reversing. They expect onion prices will begin a steep correction in December and through first three months of 2024, so the headline inflation surge in November should be short-lived.

“Outside vegetable price gyrations, the first advance estimate of the summer or Kharif crops shows lower production across rice and key pulses, which will weigh on broader food price inflation. …Risks to inflation are to the upside, mainly due to food prices (locally) and commodity prices (globally),” they add. Sonal Varma and Aurodeep Nandi, economists, Nomura see headline inflation to average 5.3 percent in FY24 and 4.4 percent in FY25, close to Reserve Bank of India’s projections.

The government has also swung into action to curb inflationary pressures in onion. The government had imposed a minimum export price (MEP) of $800 per tonne on onion export till 31 December this year in order increase availability in the domestic market and to keep a tab on the inflationary pressures. However, the government has clarified that consignments in the custom authority registered till 29 October can be exported till 30 November.

As inflation tends to pick up post elections, supply side dynamics will play a dominant role this time, says Radhika Rao, economist, DBS Bank.

“Outside of the elections, price trends are influenced by number of exogenous forces likely oil prices, administrative changes, crop production, monsoon, and support prices. Since the onset of the pandemic and after, the trend has shifted higher on more pronounced supply gaps and weather vagaries,” Rao explains.

Cereal and pulses continue to grind higher along with a delay in kharif supplies pushing up onions (adding to vegetables) in the near-term, suggesting this year’s trend will be closer to 5.0- 5.5 percent year-on-year leaving little room for the RBI to consider policy easing, she adds.

 How tomato, onion, potato prices fluctuate

However, Indian economy’s tug-of-war with food price rise isn’t new but mostly frequent. The last time it lasted long (in double digits for seven months) was in fiscal 2020 such that the annual average vegetable inflation surged to 21.3 percent, taking up average food inflation to 6.7 percent. And back to double digits between March and September 2022, averaging 15 percent.

 “But a repeat this fiscal is unlikely,” says economists at Crisil.  Vegetable price pressure has abated as inflation fell from its peak of 37.4 percent in July to 3.4 percent in September with fresh supplies entering the market. Prices of tomatoes (which was a major driving force) and of several other vegetables fell sharply by September. Onion prices, though, remain a pressure point. “The not-so-good news is that vegetable prices can surge afresh,” they add.

 Vegetable inflation has trended up in the past four years, an analysis by Crisil shows. CPI vegetables inflation averaged 5.7 percent during fiscals 2020 to 2023. It averaged nil or unchanged during fiscals 2016 to 2019, with interim periods of sharp deflation and steep inflation, mostly led by weather shocks. In comparison, average food inflation rose to 6.2 percent during fiscals 2020 to 2023 from 2.8 percent between fiscals 2016 and 2019.

 In the past 100 months, CPI vegetable inflation was above its period average of 3.8 percent in 49 months. It was above 7 percent in 35 months, above 10 percent in 30 months and above 20 percent in 13 months. Volatility in vegetable inflation, measured by standard deviation, which was already high at 11.1 during fiscals 2016 to 2019, rose to 17.3 during fiscals 2020 to 2023. Food inflation volatility during the periods was much lower, at 2.9 and 3.4, respectively.

 “Several studies have pointed at the dominant role of weather shocks in influencing vegetable production and price spikes. But we believe that demand outpacing supply is also a big factor, keeping prices on the edge,” economists at Crisil.

 Vegetables are grown throughout the year, are more vulnerable to weather shocks and pest attacks, and have no price signalling mechanism (such as minimum support price) or any assured offtake by the government.

This is unlike cereals and pulses which are cultivated during two major cropping seasons and have more predictability regarding production and prices. The lack of price predictability in such a highly volatile and heavy-weight food component brings a large degree of uncertainty to inflation forecasting and requires detailed probing on the factors that drive it.

 The Economic Survey 2020-21 notes that despite the government’s efforts to create a buffer stock for onions, retail prices tend to increase during April to November when there is no fresh stock. This is largely because (unlike in potatoes) much of the stock is stored using traditional methods instead of cold storage, leading to wastage. Wastages are aggravated by adverse weather conditions, such as untimely rainfall and excess moisture.

Between fiscals 2003 and 2023, vegetable production grew 2.5 times, while per capita vegetable production, estimated at 154 kg, has risen less than 2 times, shows Crisil analysis. TOP inflation hit a peak of 132 percent in December 2019, led by sky-high onion prices as unseasonal and prolonged rains led to poor onion harvest. In July 2023, TOP inflation shot up once again, this time to 52.6% due to tomato prices.

According to Crisil, policy actions by government may help in improving supply and reduce volatility in vegetable prices.