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Informist, Monday, Aug 12, 2024

 

By Shubham Rana

 

NEW DELHI – When the Reserve Bank of India raised its CPI inflation forecast for Jul-Sep by 60 basis points to 4.4% last week, most market participants and economists were caught off-guard. Economists had said that the central bank is most likely overstating inflation, and the actual print may be below this forecast.

 

The July inflation print released today not only reinforced this view but also suggested that inflation in Jul-Sep may actually be close to the RBI's previous estimate of 3.8%, economists said.

 

While today's print would be a positive for the central bank, economists said, it is unlikely to materially impact the medium-term inflation outlook or the interest rate trajectory in India.

 

CPI inflation fell to a 59-month low of 3.54% in July, mainly on account of a statistical effect of a high base. This is the first time CPI inflation has fallen below the RBI's target of 4% since September 2019.

 

"July CPI print coming in lower than expectations and high-frequency data indicating reasonably broad-based decline, not just in vegetables, but in other food items also, the probability that Jul-Sep inflation number will be close to RBI forecast is very low," Abhishek Upadhyay, senior economist at ICICI Securities Primary Dealership, said.

 

With July print coming in at 3.5%, inflation will have to average 4.8% in August and September to be near the RBI's forecast of 4.4% for the current quarter. While inflation may be near 4.8% in September, when the favourable base effect reverses, the headline print is unlikely to rise to near 5% in August.

 

Economists project August CPI inflation between 3.5% and 4.0%. There is also little evidence on ground to suggest that prices would surge during the month to push inflation to close to 5% in August.

 

Prices of most vegetables, pulses, and cereals--the biggest contributors to food inflation--have declined so far this month. According to data from the Department of Consumer Affairs, prices of tomato were down 16.8% on month in August, as compared to a 55.5% on month rise in July.

 

Similarly, prices of onion, pulses, rice, and wheat were also down this month.

 

The progress of southwest monsoon and kharif sowing also bodes well for the food inflation outlook, economists said. So far, rainfall has been 6?ove the long period average, while kharif sowing is up 1.4% on year.

 

"The good part is monsoon and sowing have been progressing well and the expectation is that the arrival of fresh supplies in the market should over the next few months curb the food price rise," Dharmakirti Joshi, chief economist at CRISIL, said in a note.

 

There is also a statistical effect of a higher base in August, which could keep inflation at 3.6%, if the overall index remains unchanged from July. From September, the favourable base effect will reverse, keeping inflation closer to 5% than 4%, economists said.

 

MONETARY POLICY IMPLICATIONS

While the Jul-Sep inflation print may turn out to be lower than RBI's expectations, it is unlikely to force a change in the medium-term inflation view, economists said.

 

"Given that the 4% inflation target is still missed on a durable basis, we do not think that this month's sub-4% print would have any impact on the reaction function of the RBI," YES Bank said in a note.

 

While the outlook on food inflation appears brighter going ahead, with above-normal monsoon rains and higher sowing, the core inflation outlook is opposite.

 

Core inflation, which excluded food and fuel items, rose to 3.4% in July from a record low of 3.1% in June, indicating that core inflation has bottomed out. This was the first time core inflation has risen in 20 months, and the single biggest jump in the print since April 2022.

 

The rise in core inflation was mainly because of an increase in telecom tariffs last month and a rise in gold prices. The impact of the rise in telecom tariff will be reflected in the core inflation throughout the rest of the year.

 

Though it is too early to term the rise in core inflation as a reflection of demand revival, economists expect it to rise further this year to near 4%, as demand in the country improves.

 

"This inflation print is positive, but I don't think it changes the monetary policy reaction function significantly," Upadhyay said. "This print may strengthen the case for a change in stance, but is not sufficient to trigger rate cuts."

 

The RBI has repeatedly said that it will look through the base-effect led sub-4% inflation prints of July and August, as inflation is projected to rise in the second half of the financial year. The central bank projects inflation to average 4.7% in Oct-Dec, 4.3% in Jan-Mar, and 4.4% in Apr-May.

 

Notably, the August inflation print will be the latest one available when the Monetary Policy Committee meets on Oct 7-9, which lowers scope of any rate action, economists said.

 

Most economists expect the RBI to begin easing rates in December or October, as compared to Oct-Dec earlier. With RBI Governor Shaktikanta Das continuing to reiterate that inflation needs to align with the 4% target durably, it is safe to assume that rate cuts are still some distance away.  End

 

Edited by Ashish Shirke

 

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