Technical Analysis

With CPI inflation steady, RBI may choose not to cut rates in December

Radhika Merwin BL Research Bureau | Updated on January 08, 2018 Published on October 16, 2017

CPI inflation for September 2017 remained steady at 3.28 per cent year-on-year as against most expectations of the number inching up. While food inflation eased further, core CPI inflation (excluding food and fuel), moved up due to the impact of HRA implementation.

While the September CPI inflation number is well within the RBI’s projection of 2-3.5 per cent for the first half of the current fiscal, upside risks to inflation on account of fiscal slippages, implementation of 7th Pay Commission recommendations by states, and hardening of core inflation, can nudge inflation to 4.2-4.6 per cent in the second half, in line with the RBI’s estimates.

This may leave very little scope for further rate cuts in FY18. Given that the focus has been on steering the trajectory of inflation towards its target over the medium-term, rather than past data, how inflation trends over the second half of the fiscal will be keenly watched.

Easing up

Over the past year, the steady fall in CPI inflation has been led by food that has a 45 per cent weightage in the CPI basket. From 6.3 per cent in April 2016, food inflation slipped to a negative 1.2 per cent in June 2017, before inching up in July and August.

Vegetable prices (of onion and tomato in particular) that shot up in August, have been receding. Vegetable inflation is down to 3.9 per cent in September from 6 per cent in August. Cereals that have the highest weightage within food, have also witnessed some easing up in prices.

However, inflation in milk and milk products that has the second-highest weightage, has inched up in September, so has the inflation in meat and fish.

Pulse prices continue to see a significant drop -- inflation within this basket slipped into the negative territory in December 2016 and the fall has only gotten accentuated since then. In September, pulses prices were down 22.5 per cent y-o-y. Oversupply of pulses due to bumper crop, alongside rising imports have led to the steep fall in prices.

Hardening trend

However, core CPI inflation has been on the rise. From 4.5 per cent in August, core inflation moved up to 4.6 per cent, largely due to the impact of higher HRA allowances under the 7th pay commission. Components such as clothing and footwear (6.53 per cent weight in CPI), recreation and amusement (1.68 per cent), housing (10 per cent), and fuel (6.84 per cent) -- all have witnessed an uptick in September.

Housing inflation has moved up sharply from 5.58 per cent in August to 6.1 per cent in September. Increase in international prices led to fuel and light inflation moving up from 5 per cent in August to 5.6 per cent in September.

Upside risks

Food inflation in the past has been known to be volatile given the weak food supply management and procurement by government agencies. Thanks to the Centre’s efforts to iron out issues in the food supply management, food inflation, since 2015, has remained within a small band of 5-6 per cent, but for the sharp fall in recent months.

There is however, some risk and uncertainty to food inflation, going by the first advance estimate of kharif production for 2017-18.

Also, post GST, higher taxes on clothing, health, medicines, education, housing and mobile services will likely exert upside pressure on inflation. Also, housing, has more or less remained sticky. Core inflation remaining above 4 per cent could stay RBI’s hand, limiting scope for further rate cuts.

Also, possible fiscal slippages, implementation of 7th Pay Commission recommendations by states and base effect trickling in, could lead to inflation inching up to 4.3-4.5 per cent by the end of FY18. This is in line with the RBI’s current assessment of inflation trajectory.

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