The Reserve Bank of India's (RBI) monetary policy committee expects headline inflation to witness a spike in the near months on account of supply disruptions due to adverse weather conditions.

While the vegetable price shocks are expected to correct quickly with the arrival of fresh crops, there are risks to the food and the overall inflation outlook from El Nino conditions, volatile global food prices and skewed monsoon distribution, says RBI governor Shaktikanta Das.

Supply-side measures need to be continued to prevent the spiralling of frequent food supply shocks into generalised economy-wide price impulses, Das says.

The MPC earlier this month unanimously voted to keep the policy repo rate unchanged at 6.5%. India's retail inflation surged to a 15-month high of 7.44% in July from 4.87% in June, breaching the RBI's 6% upper tolerance limit. Inflation in the food and beverages segment more than doubled to 10.6% in July from 4.7% in June led by high vegetable prices.

According to MPC member Ashima Goyal, agricultural prices must become more resistant to possibly more frequent weather shocks. "For this diversified and resilient vegetable supply chains are required. Well-functioning markets respond before price spikes become very large. Delhi should not be buying tomatoes only from Himachal Pradesh. States can experiment with allowing corporations more direct access to farmer organisations," says Goyal.

Large food retail chains also buying from mandis aggravates price movement in India, according to Goyal. "Farmer cooperatives have more bargaining power and platforms like Open Network for Digital Commerce (ONDC) can aid them in establishing supply agreements anywhere in the country," she says, adding that processing and storage facilities must improve.

Pre-emptive supply-side action that prevents repeated or persistent food price shocks would abort a second round increase in wages and other prices that could require further monetary tightening and growth sacrifice, Goyal says.

Indian oil majors, which turned profitable in the summer last year, are in a position to reduce domestic prices, says Goyal, adding that fuel price cuts have a large impact on household inflation expectations.

Headline inflation has softened from last year's elevated level but it still rules above the target, according to the RBI governor. "Our task is still not over. Given the likely short-term nature of the vegetable price shocks, monetary policy can look through the first-round impact of fleeting shocks on headline inflation. At the same time, we need to be ready to pre-empt any second-round impact of food price shocks on the broader inflationary pressures and risks to anchoring of inflation expectations," Das says.

India faces the onslaught of overlapping localised supply shocks, which are causing price-sensitive food items in the CPI to spike and push up headline inflation, says MPC member and RBI deputy governor Michael Debabrata Patra.

"A risk to the inflation outlook stems from the liquidity overhang in the banking system," says Patra. To withdraw excess liquidity of over ₹1 lakh crore from the banking system, the RBI told banks to maintain an incremental cash reserve ratio (I-CRR) of 10%. There is surplus liquidity due to the withdrawal of ₹2,000 banknotes, 87% of which have come back into the system as bank deposits.

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