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Business News/ Politics / Policy/  Raghuram Rajan seen hamstrung by inflation on weak monsoon
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Raghuram Rajan seen hamstrung by inflation on weak monsoon

Morgan Stanley says inadequate rainfall could reverse a recent slowdown in food-price increases

Consumer inflation in India quickened to 8.31% in March, after declining to a two-year low of 8.03% the previous month from as high as 11.2% in November. Photo: Ramesh Pathania/MintPremium
Consumer inflation in India quickened to 8.31% in March, after declining to a two-year low of 8.03% the previous month from as high as 11.2% in November. Photo: Ramesh Pathania/Mint

Mumbai: India’s prediction for a below-average monsoon this year is fueling concern inflation will quicken, limiting room for interest-rate cuts to revive the economy.

Morgan Stanley says inadequate rainfall could reverse a recent slowdown in food-price increases, while the local unit of Moody’s Investors Service sees that delaying any policy easing by central bank governor Raghuram Rajan until 2015. Rain during the June-September period, crucial for crops from sugar to rice and cotton, will probably be 95% of the 50-year average, the India Meteorological Department (IMD) forecasts.

Consumer-price gains in Asia’s third-largest economy probably quickened for a second month in April to 8.5%, a Bloomberg survey of economists showed before official data due 12 May. The cost to lock borrowing costs in India for three months using interest-rate swaps rose three basis points this quarter to 8.36%, after a 28 basis point slump in the preceding period. Similar rates in China fell 69 basis points since 31 March to 3.51%.

The prospect of below-average rainfall suggests that achieving the RBI’s target of containing CPI inflation below 8% by January 2015 would be challenging, Aditi Nayar, a senior economist in Gurgaon, near New Delhi, at ICRA Ltd, the Indian unit of Moody’s, said in a 8 May interview. The most likely scenario at present appears to be an extended pause for policy rates, which would in turn dampen an economic revival.

Rates, inflation

Governor Rajan, who raised borrowing costs three times from September through January, left the benchmark repurchase rate unchanged at 8% last month. He said further policy tightening isn’t anticipated as long as the pace of CPI gains stays on path to reach an 8% target by January 2015. A weak monsoon would be a key risk to that outlook, according to the former International Monetary Fund (IMF) chief economist.

Consumer inflation in India quickened to 8.31% in March, after declining to a two-year low of 8.03% the previous month from as high as 11.2% in November, according to official data. Wholesale prices rose 5.7% in April, a separate survey showed, compared with a nine-month low of 4.68% in February.

India’s economy grew 4.9% in the year ended 31 March, the government estimates, keeping the pace of expansion close to a decade-low 4.5% in the preceding 12 months.

El Nino

More than 50% of the nation’s farmland is rain-fed, making monsoons the main source of irrigation for India’s 235 million farmers. Less-than-normal precipitation can curb farm output, lower rural incomes and hamper a rebound in the country’s economic growth from near the lowest in a decade, while spurring inflation.

Rainfall may fall short this year because of a potential El Nino weather pattern, which is caused by the periodic warming of the tropical Pacific Ocean, according to the meteorological department.

Price pressures stoked by a potential shortfall in rains may even prompt the central bank to resume monetary tightening according to Nomura Holdings Inc and Kotak Mahindra Bank Ltd Japan’s biggest brokerage expects the Indian central bank to increase rates by a quarter percentage point next quarter.

Given the current probabilities of an El Nino-induced weak monsoon and the associated inflationary impact, we see significantly higher chances of the RBI hiking policy rates than the markets may be expecting, Indranil Pan, an economist in Mumbai at Kotak Mahindra Bank, said in an interview on Thursday.

Fund outflows

The 10-year real government bond yield, calculated by subtracting wholesale inflation, has retreated to 306 basis points from this year’s peak of 422 in March as price increases quickened. The rate on benchmark 8.83% sovereign notes due November 2023 was at 8.74% on Friday, while the rupee traded at 60.06 per dollar.

Fixed-income funds in India saw withdrawals of Rs9,930 crore ($1.7 billion) in April, the first outflows since December, according to the latest data from the Association of Mutual Funds in India.

Bond risk in India is rising. Credit-default swaps insuring the notes of State Bank of India, a proxy for the sovereign, against non-payment for five years have climbed to 250 basis points from this year’s low of 222 on 1 April, according to data provider CMA.

The expectation for a weak monsoon will have a bearing on monetary policy and will clearly complicate the RBI’s decision making, Sonal Varma, an economist in Mumbai at Nomura, said in a phone interview on Thursday. BLOOMBERG

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Published: 09 May 2014, 02:33 PM IST
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