Five years is a long time to live with 4%-plus inflation. It can leave a bitter taste.

Inflation has persisted stubbornly for five years now. In October 2019, India’s retail inflation exceeded the 4% official midpoint target set by the Reserve Bank of India (RBI), and has remained there for all but two months in 2024. The latest inflation number for October exceeds even the RBI’s upper tolerance limit of 6%, setting off fresh alarm bells. Markets are focused on how monetary policy will react and whether this will delay interest rate cuts.

High prices are the legacy of inflation, and they impact the psyche of consumers. Ordinary households are concerned about the prevailing prices of what they buy rather than the inflation rate measured as a statistic. The reality is, prolonged inflation means prices are high by previous standards even when the rate itself has slowed down.

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When compounding can wreak havoc

At an annual inflation rate of 4%, an item’s price will rise from ₹100 to ₹122 in five years. The power of compounding—delightful when we watch our savings multiply—is devastating when costs shoot up year after year. Some insights on how prolonged inflation impacts households’ spending and saving decisions can be gleaned from the RBI’s bimonthly surveys of urban households: the Inflation Expectations Survey of Households (IESH) and the Consumer Confidence Survey (CCS).

Actual inflation has been trending down, but expectations of rising prices continue to linger, as measured by IESH. In the worst months of 2022, about 30% of households sampled by the IESH expected inflation to shoot up to over 16% (year-on-year) over the following quarter and in the year ahead. By September 2024, only 13-15% expected the same.

This might seem like inflation expectations have calmed down, but unfortunately, memories of inflation are still fresh. The latest IESH data shows only a small minority (5% of households) expect a decline in the inflation rate, and 74.4% expect prices to increase at a similar or higher rate than at present. In other words, three-fourths of urban households expect high inflation in the near future.

Youth pessimism

Inflation pessimism is mainly driven by food and housing prices. In September, a whopping 77% of households expected food inflation to increase at a similar or higher rate than the prevailing rate. The outlook for housing inflation was also bleak, while inflation expectations on non-food products or services were a bit lower.

Slicing the data by age shows that between January and September, the biggest jump in food price expectations occurred in the 25-30 years and 55-60 years age groups.

At one level, this is intuitive: both these groups tend to have relatively lower savings—the young because they are likely to be earning less and the old because they would have used up a significant chunk of their savings on building homes and raising families. But the numbers also lead to a more disquieting conclusion: prolonged inflation limits the ability of the young to save. This issue was highlighted by a recent survey, which revealed that 85% of Gen Z and millennials saw the high cost of living as a key barrier to saving. (Source: Fin One’s Young Indians’ Saving Habits Outlook 2024). Given that India has a predominantly youthful population, and is counting on this demographic to power its future growth and prosperity, managing inflation could perhaps be seen as a national, and not just a monetary policy imperative.

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Spending dampener

Using the consumer confidence survey, inflation views can be mapped to incomes. Results suggest that the poorest, who are the most adversely impacted by rising prices, are the most pessimistic about future inflation. And as expected, the highest income category is the most optimistic.

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But the real concern is the lingering inflation anxiety in the middle-income group. For instance, respondents in the ₹50,000- ₹1 lakh monthly income bracket have turned sharply bearish on inflation since May 2024, and are more aligned in pessimism with lower-income respondents.

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India is a consumption-driven economy, and households, especially the vast middle class, form its economic and political backbone. Five years is a long time to live with 4%-plus inflation. It is not surprising that the most affected consumers have modified their spending and saving behaviours to cope with it. Several indicators of urban consumption have shown a decline in recent months, suggesting that middle-class households are cutting back on spending outright, or switching to cheaper alternatives. It’s already showing up as slowing retail sales and FMCG earnings. The risk is that, eventually, overall consumption growth, and therefore economic growth, could take a hit.

The author is an independent writer in economics and finance.