Observers of India's economy may wonder why inflation has persistently remained high over recent years - much higher than that in many other Asian economies.

Inflation has been one of the most important problems facing India's economy. Over the past five years (2006-11), the annual average Consumer Price Index (CPI) inflation was 8.7 percent for industrial workers and 9.7 percent for agricultural labourers, while the Wholesale Price Index (WPI) inflation was 6.3 percent. India's CPI inflation has been the second highest among the Asian economies.

Nomura economists have identified five reasons for the consistent uptick in inflation:

1) Capital Stock Deficiency: Capital stock deficiency tends to lead to bottlenecks, under which resource constraints, including limited infrastructure and/or the lack of manufacturing capacity delay overall production or service generating processes, further leading to higher inflation through shortages in supply. India's capital stock-to-GDP ratio was 1.79 in 2010, among the lowest in Asia.

2) Demand Side Drivers (The National Rural Employment Guarantee Act (NREGA)): Nomura economists said demand-side inflation drivers, especially those arising from a sharp rise in personal income and an expansionary fiscal policy, have also played an important role in keeping inflation persistently high.

3) Food Price Pressures: Food price inflation has been a major driver of inflation and the lack of rainfall during the monsoon season often hits India's food production. In addition, the structural change in food intake has contributed to food price inflation.

4) Import Price Pressures: Import price pressures have also been an important factor for overall inflation as India has become a more open economy over the past 10 years. In fact, the imported goods-to-GDP ratio doubled from just above 11 percent in FY00/01 to 21.9 percent in FY10/11 with bulk imports, such as crude oil, metals, rubber and food - primarily commodity-related items - accounting for 42.7 percent of total imports.

5) Inflation Expectations: In the RBI's latest inflation expectations survey of households, respondents' inflation expectations for three months ahead inched up to 12.2 percent in the third quarter of 2011 from 11.8 percent in the second quarter. Overall, inflation expectations have been largely driven by food price inflation in India as food constitutes more than 50 percent of the average Indian household's consumption basket.

Although we expect cyclical factors to ease WPI inflation to 6-7% in 2012-13, we believe structural factors will likely lead to a resurgence of high inflation in the medium term so long as investment growth remains subdued, economist Tomo Kinoshita wrote in a note to clients.

Nonetheless, the economist said simulation analysis suggests India can lower its inflation considerably if it achieves high investment growth via various reforms.

India Gdp Manufacturing Crude oil