Home / Politics / Policy /  Inflation down, RBI rate cut hopes up

New Delhi: India’s new macroeconomic numbers, the last before the Reserve Bank of India (RBI) meets for its 4 October review of monetary policy, pose a dilemma for its new governor Urjit Patel.

Retail inflation decelerated sharply to 5.05% in August, while industrial production contracted by 2.4% in July, the lowest in eight months. Together, these numbers make a case for another rate cut.

The fall in retail inflation from 6.07% in July was because vegetable prices showed a sharp correction while the index of industrial production (IIP) fell due to the 3.4% fall in manufacturing output.

A Reuters poll of economists had projected retail inflation, which RBI tracks to set its interest rate policy, at 5.5% in August.

Raghuram Rajan, whose tenure as governor ended on 4 September, left interest rates unchanged last month, flagging upside risks to the inflation target.

Analysts expect inflation to subside with prospects of bumper harvest on the back of a good monsoon.

Aditi Nayar, senior economist at credit rater Icra Ltd, said that going forward, a favourable base would ensure that retail inflation remains in the range of 4-5% for the rest of the year, with a trough in November 2016 and a gradual upward movement in the subsequent months of the fiscal.

“However, with domestic demand revival post pay revision warranting some caution, we continue to expect monetary easing to be limited to 25 basis points in the remainder of 2016, despite today’s adverse IIP print," she added. Her reference is to an increase in the salaries of government employees that the government has agreed to.

RBI has set a target of 5% retail inflation by March 2017.

So far, around 86% of the country has received normal to excess rainfall, according to the India Meteorological Department. Though some parts of the country have recorded deficit rainfall, no major crop loss has been reported.

In fact, sowing of kharif (monsoon) crops this year has shown a rise compared with last year. Data with the agriculture ministry shows that 105.4 million hectares have been planted under different kharif crops so far, an increase of 4.16% from the area sown by this time last year. Sowing of pulses, a key pressure point in retail inflation, saw almost a 30% increase this year to 14.4 million hectares.

The sharp contraction in factory output was driven by items such as rubber insulated cables (-91.1%), marble tiles (-62.3%) and sealed compressers (-33.3%), while items such as air conditioners (102.8%), wood furniture (74.1%) and colour television sets (28.9%) saw high growth.

Mining and electricity also showed tepid growth at 0.8% and 1.6%, respectively.

Suvodeep Rakshit, economist at Kotak Institutional Equities, said the July IIP number is a reminder that the series needs to be updated.

“While the core industries growth, with weightage of 38%, has stabilized around 3-5% mark, the headline IIP contraction is somewhat puzzling. However, there cannot be much of an uptick in the IIP growth in the near term as public capital expenditure till July has been lower than last year, capacity utilization levels in the economy remain low and consumption demand has started to strengthen."

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