Experts discuss the reasons for contraction in IIP and an in-line inflation number

Economist and experts Siddhartha Sanyal Chief India Economist Barclays, Rupa Rege Nitsure Chief Economist L&T Financial Services and DK Joshi Chief Economist, CRISIL discuss the reasons for contraction in Industrial Output and in-line number on consumer price index.

Below is an excerpt of the interview

Latha: Food inflation at 1.95 percent, you think that is the reason why the consumer price index (CPI) number is as low as it is?

Nitsure: Yes absolutely, because from the department of consumer affairs data, we had seen rice prices which would have translated into serial inflation spiking in this month and of course, the perishable disinflation waning. So of course, as you said, statistical base effect was also unfavourable, so we were all expecting it to be closer to 4 percent or a tad higher. So, I feel that one of the reasons why headline CPI is at such a low level is that the core inflation must have really moderated and that is consistent with the overall fragile industrial recovery.

Ekta: What is your sense on consumption? When do you expect maybe consumption to pick up because we have credit growth which is absolutely dismal at this point in time and that is corroborated by what we are seeing in terms of this particular IIP data. But on the other hand, we had the bit of sales that took place in the previous month in the auto space and that got lapped up very easily. So what is happening? Where do you see the slip between the cup and the lip and where do you see the recovery come through?

Nitsure: Actually I am not sharing the growth optimism that much because so far, we have seen witnesses coming from rural consumption side, but when you read out the figure for growth of consumer durables, it is very disappointing. That means, we are still seeing the negative demand shock that was created in the months of November and December. In hindsight, I feel Reserve Bank of India also had understood it pretty well and that is why they avoided taking any blunt measure to suck out liquidity because they were also seeing weaknesses in credit demand and that is why high liquidity not getting translated into any kind of immediate inflationary risks and that is why, they kept the overall tone of policy less hawkish.

So, the start of 2017 is very weak and except for Purchasing Managers' Index (PMI) or exports, if you look at other activity indicators, they have all slipped into negative growth zone. So, recovery is very fragile and I am not so optimistic that it may revive in another quarter or two quarters.

Ekta: What is your sense in terms of the trajectory of CPI now? We do have crude prices which are hardening on the fringe, not too much to get concerned about as of now, but we are monitoring what is happening geopolitically closely. And additionally, we do not have much clarity in terms of the monsoon as yet as well. Putting those two together, where do you expect inflation to go?

Sanyal: Absolutely, there are multiple moving parts on the inflation front at the moment. As you rightly pointed out, global commodity prices as well as what happens to domestic agricultural prices, not to forget that rupee has also surprised of late on the positive side. So, multiple moving parts. On balance, what we think that incrementally, the number will be moving up from this point onwards, but that some kind of natural uptick after the economy is remonetised on one hand and to some extent, the effect is statistical.

So overall in the first half of the financial year, we think it can still be in the low 4 percent kind of handle, but after that, in the second half, the number can be slightly higher, 5 percent plus kind of a zone. But overall, the number which we are talking about for the full financial year on an average is slightly north of 5 percent. So, up from here, but not any runaway inflation at any point of time during the financial year we are anticipating.

Ekta: What will that mean from the RBI stable then?

Sanyal: RBI should be reasonably comfortable on the inflation front because if the number hovers over the near-term more in the four percent handle and incrementally for the full-year as a whole also, just above 5 percent, this is one number with the current level of growth recovery, the RBI should not be too worried. I do not really anticipate any kind of tightening at any point of time soon, but at the same time, the RBI in the last two policy meetings have made it pretty clear, they are ready to commit an error if needed on the side of caution rather than anything else.

So, my sense is that at this moment, the bias of the monetary policy committee (MPC) is to stay on a prolonged pause on the rate side and there might be a situation that the repo rate stays on hold for the remaining months of the whole of 2017. That will be my baseline scenario.

Latha: Does it look like there is a rate hike anywhere at all? We are way away from what the RBI had forecast, under 5 percent. We are way under 4 percent.

Joshi: That is true. The average inflation for the year might end between 4.6 and 4.7 percent. I do not have the numbers with me. So, clearly, it is undershot, but the issue is in the monthly numbers there is more noise than signal that you can pick up. The central bank would be looking ahead. There are two things. One is the global commodity and crude prices and even global food prices which they would be tracking and also at the same time, the risk of a monsoon failure.

So, if you combine, if the global food price scenario is good then you can import. But if you get a bad monsoon and on top of that, the global food prices keep rising as they are, then that would definitely put a pressure on food inflation. That is a question mark as of now, but something to be monitored because initial signals are not very good. On a monthly basis, yes, this is much lower than expected, but as I said, most of the time, it cannot be treated as a trend.

Ekta: What do you think the RBI's next step probably would be in conjunction with what we are seeing on growth?

Joshi: I cannot think beyond six months right now because there is so much happening domestically as well as globally. But I would presume that the repo rate would remain under hold for the next six months and after that I think depending on the scenario they will evaluate.