No surprise in June CPI inflation data but price rise in services poses a risk

Representative image: AP

India's most-watched headline inflation number may have met expectations, edging marginally down to 7.01 percent in June, but economists are cautious about some of the underlying numbers.

According to data released on July 12, Consumer Price Index (CPI) inflation eased by 3 basis points in June from May's 7.04 percent.

One basis point is one-hundredth of a percentage point.

Of the six major groups that make up the CPI basket, the index for four—food and beverages, pan, tobacco, and intoxicants, clothing and footwear, and fuel and light — registered a month-on-month increase. The index for housing fell 0.4 percent.

The devil in details

But it is the unchanged index for the so-called miscellaneous group of the CPI that has attracted attention.

The 'miscellaneous' category of the CPI includes both goods and services ranging from airfare to tuition fees. It also includes fuel items such as petrol, diesel, and lubricants and other vehicular fuels.

According to Aditi Nayar, ICRA's chief economist, the pick-up in services inflation "needs to be watched very carefully".

"…the sequential momentum in services inflation remains a key monitorable, as high domestic demand is likely to create upward pressure on prices for this sector," Nayar said in a July 12 note.

Which are the services that saw an increase in prices?

While the general index of the CPI was 0.5 percent higher in June from May, the index for some non-fuel-non-conveyance services saw a bigger rise—domestic servant/cook (0.6 percent), other consumer services excluding conveyance (0.9 percent), cinema: new release on a normal day (0.9 percent), club fees (2.4 percent), tuition and other fees (0.8 percent), and private tutor/coaching centre (0.7 percent).

Collectively, these six services account for 4.4 percent of the CPI basket.

Supply to demand

Rising demand-led inflation, as opposed to that caused by the supply disruptions because of the coronavirus pandemic and the Russia-Ukraine war, is increasingly becoming a concern.

Firms in the service sector have suffered the most due to the pandemic, particularly those that require close contact between the service provider and the customer.

But as restrictions on movement and activity were relaxed towards the end of 2020, the services sector increased prices to recoup lost margins.

While the Reserve Bank of India (RBI) seemingly looked through this high margin inflation, it is consumer demand that may now be driving services inflation. This is borne out by an analysis of the latest inflation data by State Bank of India (SBI).

According to Soumya Kanti Ghosh, SBI's group chief economic adviser, of the 299 items in the CPI basket, 200 can be classed as supply-driven and the remaining demand-driven.

"In India, CPI inflation attributable to supply-side factors started moving up after September 2021 while demand CPI remained more or less constant. The two have been moving together post-February 2022. However, in the recent month, demand CPI has moved up a bit, while supply CPI continues to moderate," Ghosh said in a report on July 12.

"Clearly, the RBI may have to raise rates further though, the improvement in inflation attributable to supply-side factors bodes well for inflation trajectory going forward."

As per Ghosh's calculations, supply-side factors explain two-thirds of the current elevated CPI inflation levels, with demand responsible for the remaining one-third.

The consensus among economists seems to be that goods inflation may have peaked in India, with early estimates for July CPI inflation at 6.5-6.7 percent.

"If current trends in global commodity prices persist, it indicates that goods inflation has likely peaked. However, services inflation, which is determined more by domestic factors, is likely to stay firm as consumption rotates from goods to services," said Gaura Sen Gupta, chief India economist at IDFC First Bank.