New Delhi: India’s factory output bounced back and consumer price inflation accelerated at a slower-than-expected pace—fertile ground for the central bank to start cutting interest rates to boost a nascent economic recovery before the government presents its budget next month.

The Index of Industrial production (IIP) grew 3.8% in November after shrinking 4.2% in the previous month, as the manufacturing sector registered modest growth of 3%. During the month, the mining and electricity sectors grew 3.4% and 10% respectively.

Inflation based on the Consumer Price Index (CPI) rose 5% in December from a year earlier, compared with 4.38% in November—the slowest since the index was created in January 2012.

Both the IIP and CPI figures were better than expected. A Bloomberg survey of economists had estimated IIP to expand by 2.3% and CPI to accelerate 5.35%.

The data shift the sights of the markets firmly to the Reserve Bank of India (RBI), which will hold its next monetary policy review on 3 February before finance minister Arun Jaitley presents his budget at the month-end.

While production of basic goods (7%), capital goods (6.5%) and intermediate goods (4.3%) expanded, output of consumer goods shrank by 2.2% due to a sharp contraction in consumer durables (14.5%).

In terms of industries, output in 16 out of the 22 industry groups in the manufacturing sector grew in November 2014.

The industry group ‘Wearing apparel; dressing and dyeing of fur’ posted the highest growth of 19.8%, while ‘Radio, TV and communication equipment & apparatus’ recorded the highest contraction—60%.

“Quite clearly, household spending on durable goods has not picked up despite the festival season. Given the seasonality of such purchases, a revival does not look likely this year until probably March," Sabnavis said.

A dip in the growth of coal production and electricity generation reported by Coal India Ltd and the Central Electricity Authority, respectively, for December compared with the double-digit growth in November, is expected to dent IIP expansion last month, said Aditi Nayar, senior economist at Icra Ltd.

Although retail inflation measured by CPI rose, the index itself fell marginally, indicating a softening of prices. This, despite vegetable prices going up by 0.58% compared with a contraction of 10.9% a month ago.

Nayar said the pick-up in CPI inflation in December 2014 was largely along expected lines, given the waning of the base effect for food inflation.

“In addition to the continued waning of the favourable base effect, weather-related supply disruptions for perishables and firming prices of pulses are likely to contribute to a rise in CPI inflation over the immediate term," she added.

In its monetary policy review last month, when RBI kept policy rates unchanged despite pressure from the government and industry lobbies to cut rates, the central bank said that although November inflation is expected to show a further easing, “the favourable base effect that is driving down headline inflation will likely dissipate and inflation for December may well rise above current levels".

“Over the next 12-month period, inflation is expected to retain some momentum and hover around 6%, except for seasonal movements, as the disinflation momentum works through. Accordingly, the risks to the January 2016 target of 6% appear evenly balanced under the current policy stance," RBI had said.

Samiran Chakraborty, managing director and head of South Asia Macro Research at Standard Chartered Bank, said while IIP points towards a reversal of the October drift, the CPI data is particularly encouraging since it came below even RBI projection of 5.5%.

“The inflation print points towards a February rate cut. The only caveat is how much weight RBI gives to the pre-condition of achieving fiscal consolidation process, in which case it may defer a rate cut to March," he added.

Jaitley, who presents his budget for fiscal 2016 at the end of February, has reiterated that the government will achieve the fiscal deficit target of 4.1% of gross domestic product (GDP) in 2014-15. The finance ministry, however, in its mid-year economic review emphasized the need for a relook at the medium-term fiscal consolidation roadmap set earlier to boost capital investment to fill the void of lagging private investment.

The marginal rise in retail inflation in December should not prevent RBI from cutting benchmark interest rates in its monetary policy announcement next month and moving lockstep with the government to put the focus back on growth, said Chandrajit Banerjee, director general of the industry lobby group Confederation of Indian Industry.

“This assumes importance as investments have not shown a significant pick-up and consumer durables continue to show a muted performance," he added.

The Indian economy is better placed than it was six months ago because of slowing inflation, political stability and a lower current account deficit, RBI said in its bi-annual Financial Stability Report last month.

Economic growth will also remain muted this year because of a moderate kharif (monsoon crop) harvest and slow growth in industrial production, the report warned.

“With capacity utilization in Q1 (April-June 2014) at the lowest levels in four years, significant new investments may take time to materialize," RBI said. “Measures of new investment intentions currently show only a modest pick-up in investments."

Capacity utilization is at 70%, the lowest since at least March 2010 and down from a recent peak of 84% in March 2011, according to RBI data.

The central bank expects the economy to grow 5.5% in the year ending 31 March, compared with 4.7% last year. It expects consumer price inflation to average 6% in the next 12 months.

A decline in the global crude oil price to around $60 per barrel, a five-and-a-half-year low, has helped keep both the current account deficit and inflation in check.

RBI governor Raghuram Rajan on 27 December said the central bank would like to focus on medium-term inflation targeting and will not chase short-term goals.

“The medium term is what gives you time to let the economy adjust to the changes that are happening. This is the sensible inflation-targeting that we have to debate about," he said at the annual conference of the Indian Economic Association.

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