Inflation down to October 2009 levels, but weak rupee stems chances of rate cut

Headline inflation slowed to a 43-month low in May, partly prompting a 350-point rally of the BSE Sensex, but fears of a weak rupee stoking prices might prevent the central bank from slashing interest rates at its policy meeting on Monday.

Wholesale price index based-inflation eased to 4.70 per cent, the lowest since October 2009, and the rupee strengthened by 40 paise to 57.60 to a dollar as banks and exporters sold greenbacks.

While industry responded to the lower inflation numbers by calling for a cut in policy rates, experts felt the Reserve Bank of India may desist from doing so as retail inflation remains high and rising imports could increase the country's current account deficit. "Given the recent rupee volatility, latest CPI (consumer price inflation) at 9.3 per cent and the possibility of a weak trade deficit print in May, we expect that the RBI is more likely to cut rates in the July 30 meeting and not on June 17," Citigroup chief economist Rohini Malkani said in a note.

ICRA's senior economist Aditi Nayar said despite poor industrial growth, mounting concerns about the size of the current account deficit might result in the RBI desisting from monetary easing in the policy review.

The RBI is under pressure from the government and industry to cut rates to boost investment and spending to kickstart the Inflation down to October 2009 levels, but weak rupee stems chances of a rate cut economy. It has cut interest rates by 1.25 percentage points since April last year, but this only partly offsets the 3.75 percentage point increase that took place between early 2010 and late 2011.

Food inflation rose to 8.25 per cent in May, compared to 6.08 per cent in April. The expectations of normal monsoon keeping food inflation down is likely to be dampened by the over 7 per cent rupee depreciation since May which may exacerbate inflation of imported items in the food category.

Manufactured products inflation and fuel inflation both fell last month but the weakening rupee could play spoilsport. "Manufactured products and fuel will be impacted the most on account of rupee depreciation," said Madan Sabnavis, chief economist, CARE Ratings.

Core inflation subsided to 2.4 per cent, during the month versus 2.7 per cent in April, lowest since December 2009. Headline inflation has fallen steeply this year because of a drop in food and commodity prices as well as falling demand for manufactured products.

But D K Joshi, chief economist, Crisil said the gains from lower commodity prices would be offset by inflation in imports, because of the rupee fall.

FICCI president Naina Lal Kidwai said the WPI figures signaled that prices have been reined in and RBI could consider a cut in the rate on Monday. "The growth in the non food credit has not really picked up... cost of credit still remains an issue, and especially so for the small and midsized firms," said Kidwai.

Source: EconomicTimes