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Wholesale price index (WPI)-based inflation averaged 2.1 per cent in FY15. This is one-third of the reading seen in 2013-14 at six per cent, signalling a sharp decline in inflationary pressures in the economy. In March, WPI-based inflation was -2.3 per cent - the fifth consecutive negative reading - compared to -2.1 per cent in February.
This decline reflects subdued manufacturing inflation and a sharp fall in fuel inflation. Food inflation - both primary and manufacturing - also fell considerably to 4.4 per cent from 5.6 per cent in the previous month.
Headline inflation was pulled down by falling fuel prices due to the sharp fall in global oil prices. Prices contracted by 12.6 per cent in fuel and power. Inflation dropped most in aviation turbine fuel (-35.7 per cent), petrol (-18 per cent), diesel (-12 per cent) and liquefied petroleum gas (-8 per cent). Crude oil prices for the Indian basket slipped below $55-a-barrel levels in March.
Oil prices are expected to remain benign in the coming months and average $60-65 a barrel (Brent) in 2015-16 from an estimated average of $85 a barrel in 2014-15. Prospects of lower oil prices over the medium term will also temper inflationary expectations going ahead.
In March, primary article inflation also moderated, falling to 0.1 per cent from 1.4 per cent. This was driven by declining prices in non-food (-7.1 per cent) and minerals (-27 per cent) in the month. On the other hand, the level of inflation in food articles remained much higher, albeit dropping in the month to 6.3 per cent from 7.7 per cent. This drop was driven by lower inflation in food grains (2.2 per cent) - especially in wheat, jowar, and bajra. This was in part due to a strong base effect. In addition to this, despite moderation, inflation remained high in pulses (13 per cent), fruits and vegetables (11 per cent) while rising slightly for milk and egg, meat and fish.
The impact of unseasonal rains is yet to reflect in food inflation. Therefore, food inflation might remain at current levels or inch up in the coming months. While ample stocks of wheat can be deployed to curb wheat inflation, the prices of chana (gram), mustard and barley could rise. In addition, with little signals of any build-up in inflationary pressures at the wholesale level in March due to unseasonal rains, consumer price index (CPI)-based inflation next month might continue its current benign trend.
Core inflation, an indicator of demand-side pressure on prices, continued its downward journey in March. Non-food manufacturing inflation fell to -0.4 per cent year-on-year from 0.1 per cent in February with the following items recording negative inflation - textiles (-2.7 per cent), basic metals (-3.1 per cent), chemicals (-1.2 per cent), rubber (-1.2 per cent) and leather (-2.7 per cent). In other categories such as wood & wood products, paper & paper products, and machinery & machine tools, inflation moderated in the month.
CRISIL Core Inflation Indicator (CCII), an alternative measure of core inflation, which is calculated by removing metal prices from the prices of manufactured articles, fell to 0.4 per cent from 0.8 per cent in February. The reason metals are excluded from the CCII is that metal prices are mostly determined by changing global demand-supply dynamics and volatility in exchange rate rather than domestic conditions alone.
In March, the overall basic metals prices fell (-3.1 per cent), with inflation in non-ferrous metals declining 0.9 per cent, while being negative for ferrous metals (-4.1 per cent). As a result, CCII and the non-food manufacturing inflation were at variance. Some of this gap was filled with falling manufactured food inflation - an item included in the CCII. Manufactured food inflation eased from 1.3 per cent to 0.6 per cent in March on the back of declining sugar, bakery products, tea and coffee prices. The decline in sugar prices is in line with the fall witnessed in global sugar prices in March.
WPI core measure fell while the CPI core remained unchanged at 5.6 per cent in the month (after excluding transport and communication). The divergence in trend is explained by the fact that the core from WPI saw a fall owing to lower inflation in basic metals, alloys, and metal products and certain chemical products that are not captured in the core at the consumer retail level (CPI).
With CPI inflation at six per cent and WPI inflation at 2.1 per cent for 2014-15, the Reserve Bank of India (RBI) has space to reduce the repo rate further. The RBI, in its last meeting, had chosen to wait for more clarity on the risks to inflation and transmission of recent rate cuts to lending rate, before lowering interest rates further. After the meeting, many banks have cut their lending rates improving the transmission machinery. Given these factors, RBI is likely to cut rates further by 25-50 bps in the current financial year.
On inflation, recent unseasonal rains, early signs of an El Niño occurrence, which might impact monsoons, administered price revisions and faster-than-anticipated increase in demand side pressures might result in derailing inflation off the RBI's projected path. On the other hand, soft global commodity and food prices, the current slack in the economy and global disinflationary pressures are all pushing inflation down. How these risks play out in the coming months will determine the inflation trajectory in 2015-16 and anchor monetary policy action.
