Inflation: Is the bogeyman receding? - Views on News from Equitymaster

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Inflation: Is the bogeyman receding?

Jun 8, 2007

Repercussions of actions have bonus ripple effects. Boxed into a corner of its own making, the Reserve Bank of India (RBI) stopped supporting the US Dollar in March 2007. And a month later, inflation rates across a gamut of indices reduced for the first time in the last ten months. That would tempt many to directly link the two happenings in a causal relationship. But this simplistic thinking would overlook the other, and equally important development that followed - the shift of the monetary policy towards tackling inflation rather than keep the dollar strong has toned down inflationary expectations within the economy. Hoarders salivating at lower than 'normal' crops, nationally as well as internationally, had driven up food prices of cereals and oil seeds over the last few months. Increased cost of warehousing thanks to higher interest rates coupled with the lowering of expectations of future price rises, has seen a dramatic reduction in the cost of food articles in the Wholesale Price Index (WPI). The two consumer price indices with a rural representation too have dropped they have a higher weightage for food articles than the urban consumer price indices.

The monsoons by arriving early and with the promise of a good agricultural season have also done their bit in reducing agricultural prices. The rupee appreciation also helped in reducing domestic prices of metals and fuel that are linked to dollar-denominated international prices.

Industrial production gets expensive
Prices of most raw materials however have remained steady or show a slight up trend. Investments for increasing capacities will also be at a higher cost as the prices of machinery and parts too have not shown any signs of easing off.

(%) Weight Jan-07 Feb-07 Mar-07 Apr-07 May-07
Food 26.9 7.2 7.6 7.7 7.8 5.7
Fuel 15.2 3.7 1.6 1.1 1.0 0.5
Metals 8.3 16.3 16.1 16.4 10.7 9.6
Transport 4.3 1.3 1.5 1.9 2.0 1.7
Machinery 8.4 7.8 7.8 8.3 7.8 8.0
Chemicals 11.9 2.8 1.8 3.1 3.0 3.7
All commodities 100.0 6.6 6.1 6.3 5.6 4.8
(Source:CSO)

The two factors that give us any handle on the future trends are a) the weather and b) the ability of the RBI to keep within its targets for money measures. If both these remain favourable, we expect this trend towards lower inflation to continue. The prices of commodities that are sticky downwards for now will reflect lower raw material expenses post - November 2007. And the time then will be ripe for an interest rate cut by the end of this fiscal year - fuelling another short cycle in economic growth.

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