The Indian economy has been recovering steadily after the second Covid wave unceremoniously disrupted growth. Economic activity has rebounded sharply after restrictions were lifted due to improvement in the Covid-19 situation.

Companies have also ramped up production with rising demand and experts are hopeful that the economy will rebound strongly by the end of this year.

However, there remains one hurdle that will determine the extent of overall economic recovery, ranging from growth to stock market performance. The problem is related to high inflation.

Read | Why high input costs could derail India’s manufacturing growth story

COMPANIES FACE INFLATION DILEMMA

Inflation has remained high in India for the past couple of months, above the Reserve Bank of India’s (RBI) upper target range of 6 per cent. In June, inflation had eased slightly to 6.26 per cent from 6.30 per cent.

While retail inflation is expected to decline further in July, wholesale inflation is likely to stay above double digits due to higher manufacturing costs. This indicates that manufacturing companies and goods producers are facing high inflationary pressure, while citizens remain shielded from higher prices.

Retail inflation is not rising as fast as wholesale inflation as companies are not passing on high manufacturing or input costs to customers. Many companies have publicly stated that they are worried about rising input costs and feel that they would soon have to start passing it on to end consumers.

Companies have refrained from sharply increasing prices of goods due to the impact of the pandemic on consumer demand, which fell sharply after the second wave.

In view of declining demand, firms had no choice but to keep prices of goods low despite high input costs. However, companies are now struggling to keep prices low as demand climbs, and it could be a matter of time before prices of goods across several categories rise.

Economists told Bloomberg News that a majority of firms will pass on high rates to consumers soon, with rising growth and consumer confidence.

Once companies pass on the hiked rates to consumers, it could lead to a sharp rise in retail inflation. The price rise will also create an environment where demand and consumer confidence will be tough to retain.

A CRUCIAL DECISION

If companies decide to hike prices of goods and services, it will lead to a sudden spike in inflation — a worrisome prospect for the RBI which has managed to keep key interest rates low for a prolonged period.

The RBI made it clear that it will maintain an accommodative policy as long as the economy stabilises. However, the central bank may be forced to change its stance if there is any sudden surge in inflation.

Shifting away from the low interest rate regime could impact the overall economy as it would impact businesses across several sectors, liquidity and the stock markets as well.

As the situation stands, the future course of the country’s economic growth depends on how companies deal with the dilemma of rising input cost and demand.