India Inflation Woes May Continue

Oil has touched a 3-month low and optimists have already passed the verdict that inflation has peaked. Credit rating agency Moody's said on Monday that inflation may have peaked in India, as is reflected by the latest moderation, even though Goldman Sachs raised its projection for the rate of price rise by 1.5 per cent to 11.5 per cent for the current fiscal year.

Inflation remains at a 13-year high of 11.98 per cent for the week ended July 19. Falling crude prices, a slowing commodity boom cycle and the recovery of the US dollar are other reasons supporting the optimists. Global inflationary pressure could undoubtedly subside, but the domestic situation may continue to remain bleak. This was reflected in the hawkish instance of the RBI (Reserve Bank of India) at the recent monetary policy review where it raised the Repo Rate by 50bps and CRR by 25bps to 9% each. Some might criticize this as a regressive step, but the fact remains that inflation fears remain intact.

The inflation numbers can be expected to remain high, owing to the what is called the ‘base effect’. Last year, the prices had begun to moderate at this point of time. However, this time they continue to remain firm. So a year-on-year percentage rise in prices will be higher, resulting into scary inflation numbers.

The monsoon season has been erratic this year. Rainfall has been below average in key areas of Gujarat, Andhra Pradesh and Maharashtra. As a result, cash crops like groundnut could take a severe blow. Groundnut and cotton prices are expected to remain firm. Edible oil prices are already high and poor harvest may not help either.

Steel prices, a major component of the WPI (Wholesale Price Index) calculation in India, has been kept artificially low. Steel producers have imposed a voluntary three month moratorium on prices at the behest of the government. This three month deadline expires in the first week of August. As global steel prices remain high, a domestic hike in steel prices will prevent inflation from heading south.

Global crude prices are hovering around their 12-week low. Indeed, this is good news, but fuel prices were already kept low in India. So even if the crude oil bubble continues to deflate, domestic prices will remain intact. Moreover, expecting crude oil prices to slip into double digits and hoping for a subsequent decline in fuel prices at home appear too optimistic. More bad news from the financial markets or a fresh war of words between Israeli and Iranian governments could see the ‘black gold’ paring with the recent losses. Recent figures reveal that the demand for oil in the developed world has been moderating. This is an encouraging development and will undoubtedly benefit the inflation-hit emerging economies.

The market is not expecting any further interest rates cuts by the US Federal Reserve in August. A slight hike by 25bps is a possibility, although a distant one. If this happens, then crude oil will lose its appeal as a hedge against the weakening dollar, and a further decline in prices could be seen.

So one should not read too much into this recent stabilization in inflation. This euphoria may turn out to be a short-lived. Until then, pray for a divine intervention in the form of a good monsoon. It’s a shame on our policymakers that Indian agriculture has yet to witness a Promethean growth. The entire nation’s economic and monetary policy is held ransom to the performance of the south-west monsoon. Everyone in this emerging economic superpower, from the ordinary farmer to the RBI Governor, looks up to the skies for relief!

Comments

[captainjohann:]

If India/Pakistan/Iran pipeline goes through in spite of pressure from USA, then India has hope to moderate inflation.Iran is ready to price it with DELIVERY AT Pakistan /india border.The monsoon gods have been favourable though late and it is going to show up in cauvery delta region.also malaysia has lowered Palm oil prices due to accumulating stock and this will help India

2008 Aug 06 08:27 AM

[User 239579:]

yes wat i think is that we r going to face tough time ahead. until crude oil really fall to double digit. monsoon is definitely crucial and decisive for our economy

2008 Aug 07 01:27 AM