Why is Inflation happening? And what does it mean for NRI’s looking to invest in Indian Real Estate?

Newspapers flooded with the hottest news of the year, google searches broke 10-year record, social media featuring supply chain issues, all this as inflation reached an unseen level and caused greater worries globally.

What is inflation? Inflation is described as an economic phenomenon that is typically a rise in prices of goods and services over a sustained time period. Simply put, it is too much money chasing too few goods and services.

Let us understand the factors that cause inflation.

1.????Demand-Pull Inflation

When the economy is growing, the purchasing power of people goes up and they are able to purchase more now, which increases competition, and results in an upward pressure on prices. Termed as demand-pull inflation, it occurs when the demand for specific goods and services exceeds the economy’s ability to meet those demands, keeping supply constant. Let’s take an example of flight tickets to understand the concept of demand-pull inflation. Flights usually have a limited number of first-class seats. When people have more money, they would aspire to travel by first class. Because there are limited number of seats and demand for the specific class is far greater than the capacity, the airline would increase the price of the first-class tickets to bring down the demand, thus, leading to inflation in price of air tickets.

2.????Cost-Push Inflation

Cost push inflation is the rise in prices caused by rising wages and material costs that are frequently passed on to customers in the form of higher prices for goods and services. Usually, a result of some policy regulation or disasters, the supply of goods and services is limited, while the demand remains the same.

3.????Currency Devaluation

Often contributing to inflationary pressure, devaluation is a downward adjustment in a country's exchange rate that results in lower currency values. A currency devaluation reduces the cost of country's exports, encouraging foreign nations to purchase more of the devalued goods. Devaluation also raises the price of foreign products in the devaluing country, encouraging citizens to prefer domestic products over imports.

How is inflation affecting the global economy?

Globally, countries have been hit hard by inflation, US being the worst hit. Consumer prices in the United States jumped to 8.3%, the fastest year-over-year increase in nearly four decades, far exceeding February's mark of 7.9 percent, indicating red-hot inflation and leaving many Americans struggling to afford the daily necessities. In May 2022, Federal Reserve raised interest rates to bring down inflation without potentially causing the economy to enter into a recession.

What many people are unaware about is what is causing the inflation in US and when will it come to an end. Many people recognize that the pandemic has tipped the economic scales, but what is causing the dollar's purchasing power to dwindle remains unknown. The inflationary burst experienced by America this year is a result of many factors as stated by expert policymakers. Briefly, a disrupted supply chain, unprecedented levels of government fiscal stimulus, shifts in consumer spending, reduced labor participation, business uncertainties, and ongoing geopolitical tensions have led to surge in inflation.

Let us understand the root cause behind such high inflation.

Reason 1: Expanded money supply

As the pandemic struck, the Federal Reserve pumped more money into the economy. The M2* money supply was approximately $15.41 trillion in January 2020. 16 months later, in April, the M2 money supply stood at $20.11 trillion, a 30 percent increase. While this may have boosted the economy and prevented recession, it contributed to higher inflation.

Reason 2: Disturbed Supply Chain

The emergence of Covid-19 resulted in an unprecedented lockdown and halted the economic activity, causing supply chain disruptions in the United States. Companies continued to maintain production. However, with employees from Covid-19 falling sick, it became difficult to do so. As production slowed, the Federal government shut down much of the American economy and maintaining the same level of output was no longer possible. Hence, millions of workers were pushed into unemployment.

Reason 3: Increased Geopolitical Tension

The conflict between Ukraine and Russia that has been ongoing for over a hundred days now has resulted in a slew of economic sanctions, wreaking havoc on global commodities and energy markets, thus, pushing inflation to unanticipated levels. The escalating conflict has impacted not only several industries but has also resulted in price increase and disruptions in supply chain of major commodities such as oil.

Reason 4: Labour Force Participation

In the United States, the labor demand has outstripped the supply since the second half of 2020. The rising cost of labor, i.e., nominal wage rates is being transferred to the consumer in the form of higher product pricing. Despite an increase in job openings, the labor force participation is low and is yet to return to the pre-pandemic levels, causing inflation to go up.

Now, that we have understood the reasons for rising inflation in US, what possible impact could it have on emerging markets throughout the world? Emerging markets are finally experiencing a period of global growth recovery. Governments around the world are prepared to keep fiscal deficits high while maintaining growth rates. A cycle of higher growth with moderate inflation is beneficial for emerging markets. Given their economic slack, emerging markets are witnessing lower inflation pressures than the developed world and should be able to survive slightly higher interest rates at the macroeconomic level.

India is positioned better to fight the rising global interest rates. With the rupee depreciating by 5.2% against the US dollar, it provides a greater opportunity for NRI’s to capitalize on. The growing value of dollar is opening new investment opportunities for NRI’s to invest in real estate in their home country. With their purchasing power going up, NRI’s across the globe are expressing interest in various asset classes such as plotted developments, mid-income, premium and luxury projects.

NRI’s have shown immense interest in premium properties across metropolitan cities such as Mumbai, Delhi-NCR, Bengaluru, and Pune as well as hill stations. Further, the real estate industry is witnessing increased traction from Gulf who understand the importance of having a property in their home country. Reforms introduced by the Government along with digitization of the whole process has encouraged NRI’s to invest in the Indian real estate industry.

With the strengthening of US dollar against the rupee, the Indian real estate has been witnessing increased transactions. Being recognized as the fastest growing major economy, IMF forecasted 8.2 percent growth for India in 2022 and is anticipated to grow at 6.9 percent in 2023.

Some important notes:

*M2: M2 is a measure of the money supply that includes cash, checking deposits, and easily-convertible near money.