Whether it’s weakness in the industrial production data or inflation, all seem to point at a rate cut. Headline inflation for March has come in at 6.9 per cent, against consensus estimates of 6.6 per cent. The wholesale price index (WPI) averaged at 8.8 per cent in FY12, compared to 9.6 per cent in FY11. While inflation would continue to trend lower on a high base effect, the fall would not be substantial. According to Deutsche Bank’s Taimur Baig and Kaushik Das, “Inflation in January-March averaged 6.9 per cent, compared to nine per cent in the October-December period. Consequently, this was the first quarter of positive real interest rate (repo minus average inflation) in two years.”
But for a sharp spike in the prices of food and primary articles, inflation may have met consensus estimates. At 4.9 per cent, prices of manufactured products remained muted in March, compared to 5.7 per cent in February, on a year-on-year basis. This weakness in core inflation, coupled with low growth, is making economists believe the Reserve Bank of India (RBI) would cut the repo rate by 25 basis points to 8.25 per cent.
However, to presume the inflation battle has been won would be a big mistake. While there is immense pressure on RBI to cut rates, nothing has materially changed, either globally or in India. Rohini Malkani of Citi says: “Thanks to the base effect, near-term WPI inflation trends are likely to be benign. However, trends in the latter half of the year could edge up to eight per cent due to some pass-through of tariffs and balance of payment pressures resulting in a weaker rupee.” Experts say there is suppressed inflation in the system. Malkani says an adjustment in domestic fuel prices could have a direct impact on the WPI, ranging from 0.6 to 3.6 per cent.
So, a moderate growth rate is not such a bad thing, as it could help ease core inflation. But, there are upside risks from the weak exchange rate and high oil prices. So, the road to a rate cut does not seem easy. Leif Eskesen, chief economist for India and Asean at HSBC Global Research, puts it well: “While a close call, we expect RBI to keep rates on hold this week. It will, in our view, prefer to gain more visibility on inflation, and some assurances that supply-side reforms will be forthcoming. The budgeted reduction in the fiscal deficit is not enough in itself to dictate the course of monetary policy, especially if the deficit target is not likely to be achieved. Whether or not RBI cuts policy rates this week, there is limited room for easing.”
