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Reducing supply shock-led inflation in emerging markets

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  • Goyal, Ashima
  • Ray, Sritama

Abstract

A large literature identifies structural aggregate demand-supply shocks and obtains their effect on growth and inflation. Unlike earlier studies, we do this with Indian data after inferring the structure of aggregate demand and supply as well as dominant interaction of shocks by testing alternative identification strategies and selecting that with consistent results. We find identification with elastic long run supply and policy tightening in response to frequent adverse supply shocks fits the data better. But this policy response increases instead of decreasing the impact of supply shocks on inflation, worsening an already high growth sacrifice, because the identification allows demand shocks to affect output in the long-run. These results explain why demand tightening following food inflation led to low growth and persistent inflation in 2010s India, while sustaining demand with supply-side moderation of supply shocks gave a robust low inflation recovery post–pandemic, and point to suitable future policy responses.

Suggested Citation

  • Goyal, Ashima & Ray, Sritama, 2025. "Reducing supply shock-led inflation in emerging markets," Economic Analysis and Policy, Elsevier, vol. 86(C), pages 2278-2301.
    • Handle: RePEc:eee:ecanpo:v:86:y:2025:i:c:p:2278-2301
    DOI: 10.1016/j.eap.2025.05.024
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    More about this item

    Keywords

    Demand-supply shock interactions; Indian inflation and growth; Monetary policy; Elastic supply curves; Structural vector autoregression;
    All these keywords.

    JEL classification:

    • E31 - Macroeconomics and Monetary Economics - - Prices, Business Fluctuations, and Cycles - - - Price Level; Inflation; Deflation
    • E37 - Macroeconomics and Monetary Economics - - Prices, Business Fluctuations, and Cycles - - - Forecasting and Simulation: Models and Applications
    • E52 - Macroeconomics and Monetary Economics - - Monetary Policy, Central Banking, and the Supply of Money and Credit - - - Monetary Policy

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