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1 Macroeconomic Update: CPI Inflation and IIP CPI Inflation (Apr-14) Highlights: Headline retail inflation rose to 8.59% for Apr-14 compared to 8.31% in the previous month. Core CPI inflation stood virtually unchanged at 7.8%. The rural and urban inflation rose to 9.25% and 7.69% respectively for the month compared to 8.89% and 7.51% in the previous month. Bansi Madhavani Priyanka Sachdeva The fiscal year started with headline combined CPI inflation rising from 8.31% to 8.59%, higher than market expectations of 8.5%. That translates to a sequential rise of 0.72% on the headline index, highlighting the resurgence of rising prices of agricultural commodities. The food, beverages and tobacco index led the surge, rising by 1.2% on monthly basis. While the market expectations factored a modest pickup in inflation rate to around 8.5%, the sharper uptick in inflation is largely on back of firming up of prices of vegetables, fruits and sugar. Core inflation, on the other hand, remained firm at its level of 7.8%. While the services inflation appears to have moderated on monthly basis, inflation level in housing and clothing, bedding and footwear continued to remain elevated. The rigidity of core CPI inflation outlines the underlying pressure of prices that has failed to moderate substantially despite the low growth environment. 1

2 Combined CPI The headline combined CPI inflation rose higher than anticipated fuelled by the surge in prices of key agricultural commodities. Of all the subcomponents, barring the two indices of clothing, bedding and footwear and food, beverages and tobacco, the monthly pace of rise declined for all other items. Basic food items like Milk and milk products (11.42%), vegetables (17.5%) and fruits (21.7%) continued recording double digit rate of inflation. On monthly basis, the rise in monthly gain to 3.8% (previous 1.4%) for vegetables, while for fruits it galloped to 7.1% (previous 3%). The adverse weather conditions of early March and onset of summer season had a bearing pushing up the prices. As a result, the overall food, beverages and tobacco inflation is pushed up to 9.79% from 9.15% in the previous month. Going forward, prices of perishables are expected to stay under pressure owing to seasonality. Another risk that persists is the possibility of El Nino condition which could lead to lower than average monsoons. The impact arising out of this likely condition is estimated to translate into headline CPI inflation facing an upside risk of basis points depending on the gravity. The fuel and light inflation edged lower partly on account of pause in hike of deregulated fuel prices. Core inflation, which captures the inflation level of services, clothing, bedding and housing, broadly stayed unchanged. Inflation level for some services components like household requisites and transport and communication inched up while for that of education, stationery and recreation and amusement edged down. Table 1: CPI Rural, Urban and Combined Rural Urban Combined Mar-14 Apr-14 Mar-14 Apr-14 Mar-14 Apr-14 Headline Inflation 8.89% 9.25% 7.51% 7.69% 8.31% 8.59% Food, Beverage & Tobacco 9.93% 10.42% 7.60% 8.29% 9.15% 9.79% Fuel & Light 7.03% 6.78% 4.94% 4.53% 6.29% 5.96% Housing % 9.73% 9.89% 9.73% Clothing, Bedding & Footwear 9.50% 9.51% 8.12% 7.77% 8.96% 8.83% Miscellaneous 7.28% 7.43% 6.29% 6.19% 6.78% 6.85% Rural and Urban CPI Continuing its diverging trend, the rural inflation rose to 9.25% (up from 8.89%), while the urban inflation rose modestly to 7.69% (up from 7.51%). The wedge between rural and urban inflation widened with rural inflation rising higher than its urban counterpart. While the food, beverages and tobacco index rose for the both rural and urban inflation, subcomponents like fuel and light and clothing, bedding and footwear cooled off for the urban component. Increasingly, it is the rural inflation that is keeping the combined inflation high. The future government s policy, therefore, with regards to determining support prices for agricultural commodities will be crucial towards guiding the future trajectory of rural inflation. Moreover, the monsoon conditions will remain a key determinant. 2

3 Index of Industrial Production (Mar-14) Highlights: Factory production stayed in the negative territory for second month in a row: contracting by 0.5%, as against revised contraction of 1.8% for the previous month. Mining and Manufacturing registered de-growth, while electricity growth continued to remain robust. Basic and Intermediate goods production grew 4% and 0.6% respectively, while Consumer goods and Capital goods slumped by 0.9% and 12.5% respectively. The positive growth in the eight core industries, which forms 37.9% of the IIP index, has failed to push the headline IIP growth into positive growth territory for second straight month. For the month of Mar-14, core sector grew by 2.5%. The IIP growth has been weighed down by the heavyweight manufacturing sector. Though the monthly pickup in manufacturing sector recorded an 11.4% growth, the annual decline stood at 1.2%. Mining sector, after recording growth in past four months, slipped into de-growth phase. Under the use based classification, the capital goods segment contracted sharply, its fifth straight month of decline. Ex capital goods, IIP actually noted an annual growth of 1.6% As a result, the combined industrial growth as proxied by IIP stood at (-) 0.1% for the Apr-Mar period. 3

4 A summary of component-wise IIP is as under: Table 2: Annual Growth in IIP (%) Mar-14 Apr- Mar FY14 Headline IIP Sector-wise Classification 1. Mining Manufacturing Electricity Use-based Classification 1. Basic Goods Capital Goods Intermediate Goods Consumer Goods Consumer Durables Consumer Non-durables Sector-wise Classification The mining sector slumped back into contraction after expanding for four straight months. Mining production grew by (-) 0.4% compared to 2% in the previous month. For the full year, mining sector grew by (-) 0.8%. Manufacturing sector, which forms the bulk of the index, contracted for second month in a row. The 1.2% contraction in manufacturing sector is on back of twelve out of twentytwo industry groups recording de-growth. Radio, TV and Communication equipment production shrunk by over 33% while Office, Accounting and Computing machinery lodged at 26% contraction. For the full year, Manufacturing has witnessed a contraction of 0.8%, highlighting the stress on the country s industrial performance. Amongst the three sectors, only Electricity recorded a strong growth of 5.4%. Use-based Classification Basic goods grew at an annual pace of 4% vis a vis 4.1% in the previous month. Overall, for the year basic goods production grew by 2%. Capital goods emerged as the prime reason for the slump in IIP. Production of capital goods shrank by 12.5% as against previous month s decline of 17.5%. Some of the key groups recorded a sharp fall in production- Aluminium Conductor [(-) 61.4%], Boilers [(-) 37.8%], Ship building and repairs [(-) 31%]. For the full year, the production of capital goods declined by 3.7%. Consumer goods production registered a growth of (-) 0.9%. Once again, this was on account of sliding consumer durables production. Woollen carpets [(-) 40%] and Telephone instruments [(-) 36.9%] dragged down the durables production growth number. Consumer non-durable goods witnessed healthy rise in production of 7.2% aided by unusual gain of 146.4% in Leather garments production. 4

5 Conclusion Inflation concerns re-emerged with the latest print standing higher than consensus market expectation of 8.5%. While seasonality and firming up of food prices have led to this uptick in headline inflation, the non food non fuel inflation has failed to soften. Against the backdrop of low growth, core inflation has stayed notoriously sticky. It is this precise dilemma that poses challenge to policymakers. Going forward, pressure on prices of commodities like food continues to linger. The inflation trajectory in upcoming months hinges on the gravity of El-Nino impact materializing, if at all. Significant uncertainties surround the likelihood of El-Nino condition which would impact the rainfall. While the base effect is expected to turn favourable, the above conditions could pose an upside risk to inflation trajectory in upcoming months. On the other hand, factory production has failed to revive. While the contraction in industrial growth is lower than market consensus of (-) 1.5%, the latest print does not bode well for the overall growth of the economy. Performance of industrial sector has particularly stayed well below potential. Several reasons can be attributed for this. While the mining sector has suffered owing to mining bans that stayed for most part of the year, the manufacturing sector has not witnessed meaningful recovery. Going forward, outcome of the General Elections will be keenly looked at by market participants. While an immediate recovery may be too optimistic to expect, a strong and stable mandate in the election should provide a platform for reliving the economy from policy logjams. Though the latest inflation print ticked up, we expect the CPI inflation to broadly converge with RBI s inflation trajectory assuming normal monsoons and no major impact of the El-Nino conditions. We, therefore, continue to expect a status quo in the upcoming Monetary Policy Review on 3-Jun-14. While the RBI governor highlighted, in his previous policy statement, that policy stance is firmly focused on keeping the economy on a disinflationary glide path that is intended to hit 8 per cent CPI inflation by January 2015 and 6 per cent by January 2016, he also stated that if inflation continues along the intended glide path, further policy tightening in the near term is not anticipated at this juncture. The outcome of election and subsequently the new budget will be the crucial triggers that the market will track in the coming months. 5

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