WPI down but FY14 growth at risk; rupee a worry: Experts

Although the wholesale prices index inflation declined for the fourth consecutive month in May to 4.7 percent from a year earlier, experts say there is a clear downside risk to economic growth in current financial year. The headline inflation for April stood at an annual 4.89 percent.

While they agreed WPI inflation has shown clear signs of deceleration, sharp depreciation in rupee in past few weeks may impact the future inflation data as well as the central bank's decisions in monetary policy. Most experts have ruled out a rate cut by Reserve Bank of India in its June 17 policy meet.
"We are going through a very soft patch of demand and demand from all kinds of products, not just on the investment demand side but also on the consumer demand side and that is clearly being reflected in lower pricing or for corporate and that is getting reflected in core inflation as well,” Samiran Chakrabarty, Head of Research at Standard Chartered Bank said while pointing risks to FY14 GDP.
Standard Chartered Bank revised its GDP growth forecast for India downwards to around 5.5 percent for FY14, just 15 days back. On Thursday, HSBC lowered India's growth forecast for this fiscal to 5.5 percent from 6 percent citing slow reforms process.
Agreeing to Chakrabarty, Jyotinder Kaur, economist at HDFC Bank said that there has been a clear break down in pricing power. “Till not too long ago investment was a problem but consumption has emerged as another problem for growth,” he added. Below is the verbatim transcript of the discussion with Samiran Chakrabarty and  Jyotinder Kaur on recent inflation data and its impact on growth. Q: The Manufactured Product Index is now up 0.3 percent month on month. Does this look like fairly decent news? Chakrabarty: Yes, it is true that the data on inflation for the past few months is telling us for sure that inflation at least at the wholesale price level is not a serious problem anymore; anecdotal evidence is also suggesting that pricing power among companies is much lower now. So, in that sense this is less of a worry. The bigger question that Reserve Bank of India (RBI) will be facing is that where the current number is headed especially after the exchange rate depreciation. I think that is where RBI has to make this crucial decision between the past data on inflation versus what lies in store in the future and that will probably determine what happens on June 17. Q: When we look at the manufactured inflation and the way it’s been trending lower, it suggests that there has been a seminal decline in the demand as well and yesterday we had one of the Houses lower the gross domestic product (GDP) forecast as well for FY14 to 5.5 versus 6 percent. Are you getting a sense looking at the way manufactured inflation as well as even core inflation is trending the demand is seriously getting crunched and that is going to impact the GDP in this year and there is a downward bias to the GDP? Chakrabarty: We have revised down our GDP growth forecast about 15 days back to around 5.5 percent for FY14. So, I am sympathetic to the view that currently we are going through a very soft patch of demand and demand from all kinds of products, not just on the investment demand side but also on the consumer demand side and that is clearly being reflected in lower pricing for corporate and that is getting reflected in core inflation as well. Let me also add that the core inflation has a very large component of imported items. So, since the commodity prices globally has been relatively soft and till the period that we are talking about, which is around May, exchange rate was not seriously a concern. I think that is also having a good effect on the core inflation number, but overall it is a positive number, it is a number which is showing that inflation till May was not showing a problem. Q: Your thoughts on what will be the trajectory of inflation hereon and will you now start worrying about even lower growth. Will you revise your growth forecast lower? Kaur: In terms of inflation trajectory I was expecting a slightly softer manufactured goods reading but that aside there is a clear downtrend in core inflation; core inflation will probably be short of 2.5 percent and more importantly on a seasonally adjusted sequential basis it would be yet another month of decline.
As Samiran pointed out that there is some amount of imported inflation element over there, commodity prices were soft and that would have filtered in. However, there has been a clear break down in pricing power, till not too long ago investment was a problem but consumption has emerged as another problem for growth and I would see it as yes, there is downside risk to growth. Q: Core inflation at 2.4 percent, some people were worrying that it would even get into negative terrain at this pace of fall. What is the sense you are getting and how severely might you have to revise growth lower if this trend continues? Chakrabarty: Anecdotally when we speak to our clients, this is something which often comes up in the discussion how people are losing pricing power because demand is so low and as I was saying that this is across the board and indicates that GDP growth is going to remain soft. Yes, we are seeing probably a stabilisation in activity indicators at a very low level but we are yet to see any green shoots of recovery in any of the activity indicators. So, GDP growth increased back to decent levels of 6 percent and above is going to take some time and in our view, we would first need to see some kind of recovery on the investment side before consumption starts picking up. So, from all those angles there is less risk to the core inflation print even to the headline WPI inflation print but as I was saying repeatedly that exchange rate can spoil this situation very quickly, every percentage depreciation in the currency is about 15-20 bps impact on WPI and that is quite huge. Q: Will this change the RBI’s stance, two inflation readings coming lower than expected both May as well as March. What are you expecting in June and if June is passed up, does July become little more certain? Kaur: The 4.7-4.8 percent reading is close to consensus. Yes, it is short of expectations and other positive print the second time in a row. However, as Samiran pointed out earlier that it is the inflation trajectory going ahead that matters and apart from that it is the currency strain that the RBI will be focusing on. Yes, the macro conditions are for gradual policy easing, but this review comes at a time when the rupee is has depreciated quite sharply and is at a very precarious stage. So, the RBI will have to think twice about the timing of the policy cuts going ahead. Q: Any changes for Monday in terms of your expectations and you were developing that point about 1 percentage point rise in the rupee or rather fall in the rupee would have a 15-20 bps increase in the inflation index. If you develop that what is the kind of inflation you are looking at for the year end. How different it is from what you had as well June and July from RBI? Chakrabarty: Before I look forward allow me to look back. If you go to FY06, inflation was less than 5 percent and growth was more than 9 percent and policy rate was in 6-6.5 range. Today inflation is at less than 5 percent; growth is at less than 5 percent, policy rate is more than 7 percent. So, to buttress the point that Dr. Pronab Sen was making, there is scope for interest rate reduction if we look at the past. The problem is when looking at the future, if our calculations are correct that this depreciation will lead to significant increase in inflation going forward then RBI for justifiable reasons can shift into a wait and watch mode on June 17 particularly given the fact that just two days later there is Federal Open Market Committee (FOMC) and the market could react violently depending upon what FOMC says.
So, whether this exchange rate depreciation is sustained or not and to what extent the pass-through of exchange rate depreciation actually happens on to WPI in a very slow sluggish growth economy is something which you probably want to see for a month or so before deciding whether to ease monetary policy further or not. That could be one tactical way of looking at things, which might force RBI not to cut on June 17 but otherwise purely on historical basis this is time for easing and quite a substantial amount of easing can be done. Q: What is your one year current account deficit (CAD) expectation? Secondly, your expectations of any changes in the language of the RBI governor compared to the last time? Chakrabarty: Our sense is that CAD this year will be lower than last year. Primarily because gold imports will be much lower. I am not too worried about the April-May trade deficit numbers. As we move forward in the year, things should look relatively better.
How would the RBI governor speak on June 17, he has been maintaining uniform stance that inflation is top priority and probably before he leaves his office on September, he probably wants inflation to stay below 5 percent. The fact that he has finally brought it down from more than 10 percent to below 5 percent, all credit goes to RBI on that matter. It might have taken time but at least it has happened. We have to see that it does not flare up again back to some uncomfortable levels.