Indian inflation was higher than expected in mid-September and is set to rise further as drought drives up food costs and demand recovers, adding to the challenge for policy makers as they try to nurture growth. While supply shortages pushed up food prices by an annual 15.6 percent.
A recent uptick in prices for base metals and manufactured goods hinted at resurgent demand-driven pressures that may compel the central bank to accelerate efforts to begin taming inflation. "We have seen some pick-up in base metal prices apart from food prices, which were already there for the last few weeks. We are getting to a stage where we need some monetary policy gestures," said Abheek Barua, chief economist at HDFC Bank.
"Inflationary expectations are at play and the way to address it is to reduce liquidity starting with selective credit controls," he said. The widely watched wholesale price index rose by 0.37 percent in the 12 months to September 12, above market forecasts and up from the previous week's 0.12 percent annual rise.
The inflation rate is expected to rise rapidly in coming weeks as the impact of sharp increases in fuel and commodity prices last year drops out of annual calculations. The WPI is already 6.1 percent higher than on March 28, the last reading of the 2008/09 fiscal year. India's central bank is in a difficult spot because it can do little about rising supply-side costs, but higher input costs are likely to spread to the broader economy.
"Input cost pressures are building up fast and as demand conditions improve, there will be further pass-through of costs," Nomura economist Sonal Varma said. "We expect the RBI to hike repo/reverse repo rates in the first quarter of 2010, when there are firm signs that growth has indeed picked up," she said, referring to the key policy rates.
Along with South Korea and Australia, India is expected to be among the first major economies to begin retreating from its accommodative monetary policy, starting with a tightening of liquidity and reserve requirements for banks. As the global downturn hit the country harder than expected last year, the Reserve Bank of India (RBI) slashed reserve requirements, flooded markets with liquidity and cut its main lending rate by 425 basis points between October and April.
RBI Governor Duvvuri Subbarao earlier this month said the central bank would not unwind its accommodative monetary policy before ensuring recovery. He also said the economy faced supply constraints rather than excessive demand. Economic growth is seen slowing towards 6 percent in the 2009/10 fiscal year from 6.7 percent last year, lagging growth of 9 percent or more in the previous three years. But it is expected to pick up in the next fiscal year.
Last week, a deputy governor of the RBI said WPI inflation could hit 6 percent by the end of the fiscal year, above the central bank's July forecast of about 5 percent. "The key takeaway from this week's data is the pick-up in the prices of base metal, coming from iron and steel. That gives an indication that there are some demand-side pressure lurking around," said Rahul Bajoria, an economist at Barclays Capital in Singapore.
The iron and steel sub-index rose about 4 percent from the previous week. "We still maintain a view that the RBI will hike CRR (cash reserve ratio) and reverse repo at the end of fourth quarter of 2009 and may probably hike repo rate in the first quarter of 2010." Bajoria added.