Saikat Chatterjee / Reuters
Mumbai: India’s annual inflation rate is probably already near 9%, close to a 13-year high, and will top the central bank’s comfort zone all year as the impact of rising raw materials prices seeps deeper into the economy.
But since price pressures are largely beyond its control, the central bank will maintain a measured response to fight inflation by managing cash levels in the banking system rather than raising interest rates, which could impact growth, economists said.
A potential rise in pump prices to offset pressure on government subsidies, plus tax cuts and higher federal government salaries that could fuel demand, are expected to keep pressure on inflation in coming months.
If recent and persistent upward data revisions are anything to go by, Friday’s data showing inflation hit 8.1% in the year to May 17 will not be the peak.
“We may see 9-9.2% peak in the near term after the revision to the provisional data,” said Sujan Hajra, chief economist at brokers Anand Rathi Securities.
The latest figure for the wholesale price index, the most closely watched inflation measure in India, marked its highest level in more than three “ years and was well above the central bank’s target of 5.5% for the end of 2008/2009 next March.
But a rate of 9% would be the highest inflation since 1995.
The big revisions in the data are due to a time lag in updating domestic prices of international commodities such as iron, steel, edible oils and petroleum prices.
Fuel Price Debate
With world oil at record highs, the government is debating whether to raise pump prices again. It raised diesel in February by 3.3% and petrol by 4.6%.
Economists say a 4.6-9% hike would add between 50 basis points and 100 basis points to headline inflation.
“If oil prices keep rising we will see some hike in local prices in the future, which in turn would mean some monetary policy action will be required,” said Sanjeev Sanyal, chief Asia economist at Deutsche Bank in Singapore.
The Reserve Bank of India has lifted the reserve requirement for banks by 2.25% points to 8.25% of deposits since April 2007.
But it has left interest rates steady for more than 12 months, concerned growth may be slowing from close to 9% in the last fiscal year.
Economists say the reserve requirement could rise by as much as 1% point this year to keep interbank rates at the top end of the official 6.0-7.75% rate corridor.
“The only thing that they can do is reinforce overnight rates at 7.75% and hold it for three to four months until inflation expectations can be contained,” said A. Prasanna, economist at ICICI Securities Primary Dealership.
With the central bank’s options limited, the government is trying to keep domestic supplies up and external price pressures down by banning some exports and lowering some import duties.
Policy makers, nervous that consumers will exacerbate price pressures by paying up in anticipation of future increases, repeatedly reassure the public that inflation will fall soon.
“Inflation expectations are becoming more entrenched and that is why they are resorting to price controls which is not good,” said Shubhankar Das, an analyst at Lehman Brothers in Tokyo.
He was referring to concern than price controls that keep items cheap can stoke demand.
Hajra and other economists see inflation easing towards 6% in the second half of the fiscal year after September.
Economists say government price controls and additional subsidies will stroke demand when fiscal policy has already been loosened for state and national polls over the next 12 months.
The government has cut tax this year and may hand out generous federal salary raises. It has also offered $17 billion in loan waivers to small farmers.
“The fiscal policy has not delivered at the central level and the fiscal and the monetary policy are working at loggerheads,” ICICI’s Prasanna said.