We maybe irrational but we are logical.

Are Indians the strangest people on the planet? The Consumer Price Index was 4.4% in September, just a tad higher than 3.7% in August, dramatically down from the double digit rates during Congress raj. The Wholesale Price Index has been negative for 11 months, coming in at -4.54% in September. Despite consistently falling inflation rates people in India expect retail prices to rise by 10.7% in the next 3 months and by an even higher rate of 11.1% in the next one year. Why? Core inflation, which ignores food and fuel, rose to 4.1% in September from 3.9% in August but even so is within comfort range. Apparently, if people expect prices to rise in the future they increase their spending to take advantage of lower prices at present while if they expect prices to fall they delay purchases. Which should be good thing. The inflation rate in Europe is at 0% so the European Central Bank is keeping its interest rate at 0.05%. Interest rate in the US is 0.25% while in the UK it is 0.5%. This is to keep borrowing costs as low as possible so that companies invest in new ventures, creating jobs, which, they hope, will increase the inflation rate to 2% by increasing spending. A higher inflation rate will encourage people to spend more which will result in increased production to meet the demand and create even more jobs. So, with high inflation rates Indians should be splurging on new purchases and the economy should be booming along. But, behavior of people is not guided by economic theories. Neuroscientists are getting involved in economic research, though advertisers have apparently known this all along. Thing is, India is not Europe or the US. China has been cutting interest rate so the Reserve Bank cut interest rate by a hefty 50 basis points last month to boost business. According to the RBI there are only 20 million credit cards in India. Total outstanding credit is Rs 324 billion and average per card is Rs 15,000. Although this may sound huge it is only a fraction of the total population of 1,300 million people who can take advantage of lower borrowing costs. The expectation of rising prices may not increase spending in India. The reason is that there is no safety net for middle class Indians. No unemployment benefit, no income support and no state pension. The poor get cheap food, free schooling in private schools, which has penalised the middle class through rising fees, and various subsidies, while taxpayers get nothing. Rising prices hit the middle class very hard which is shown in the fall in financial savings. So expectation of inflation has the opposite effect in India. Or maybe the method of calculating the inflation rate is wrong. There is logic behind irrational behavior.