Rupee gains; confidence returns on rate cuts

By Swati Bhat

MUMBAI (Reuters) - Bonds and the rupee gained on Friday after consumer prices for January came within market expectations and well below the central bank's inflation target, bolstering prospects for further interest rate cuts.

The inflation data helped ease some of the previous uncertainty about rate cuts after India on Monday posted a sharp revision in economic growth data that saw the country overtake China in the October-December quarter.

On Thursday, data showed consumer prices rose an annual 5.11 percent compared with a 4.28 percent gain in December, after statisticians also changed the base year for measuring inflation to 2012 from 2010.

That was well within the Reserve Bank of India's inflation target of 6 percent by January 2016. The central bank has also projected inflation would stay below that target by next month.

Analysts said the RBI will likely still deliver the 50-75 basis points (bps) expected by markets this calendar year after it unexpectedly cut interest rates in January by 25 bps.

"The CPI data has resulted in confidence returning to the market in terms of the monetary easing cycle," said Harish Agarwal, a fixed income trader at First Rand Bank.

The benchmark 10-year bond yield dropped 5 bps to 7.69 percent by 0458 GMT, while the rupee strengthened to 62.10/11 per dollar versus its previous close of 62.3050/3150.

Any RBI rate cuts would likely come after the government delivers on Feb. 28 its fiscal budget for the year starting in April.

The RBI has made further rate cuts contingent not only on easing inflation but also efforts by the government to fix the structural infrastructure bottlenecks that keep food and energy prices high in India.

But a new added uncertainty is how the government and the RBI incorporate the revised GDP data out this week that said the economy expanded 7.5 percent year-on-year during the last quarter, higher than 7.3 percent growth recorded by China.

"We note that the recently released GDP data has introduced some uncertainty about the extent of the output gap in the economy," Citigroup said in a note issued after CPI data on Thursday, while sticking to its forecast of a cumulative 75 basis points in rate cuts by March 2016.

"More clarity could emerge only when back-casted historical GDP data series are available, until then we await RBI's interpretation of GDP data."

(Editing by Rafael Nam & Kim Coghill)