Retail inflation may ease out to 7.1% but stay above RBI comfort zone

The statistics ministry will release CPI inflation data for May at 5.30 PM on June 13.

India's headline retail inflation rate is seen falling to 7.1 percent in May, with a favourable base effect likely to more than cancel out the impact of a sizeable increase in prices of key items.

According to a Moneycontrol poll of 10 economists, Consumer Price Index (CPI) inflation likely fell sharply last month from a 95-month high of 7.79 percent in April.

The statistics ministry will release CPI inflation data for May at 5.30 PM on June 13.

At 7.1 percent, it will be the fifth consecutive month in which inflation would have been above the 6 percent upper bound of the Reserve Bank of India's (RBI) tolerance band and the 32nd straight month in which it would be higher than the medium-term target of 4 percent. With the Monetary Policy Committee increasingly likely to fail on the inflation mandate front, even a large fall in inflation in May to 7.1 percent is unlikely to have any impact on the future course of monetary policy.

While raising the policy repo rate by 50 basis points to 4.9 percent on June 8, the RBI raised its inflation forecast for FY23 to 6.7 percent, with an average of 7.5 percent for April-June. Economists widely expect the repo rate to be increased at least twice more in FY23.

"Sequentially, prices of many food articles and consumer goods/services increased during May due to the heat wave, shortages and continuously rising costs of inputs," said Rupa Rege Nitsure, group chief economist at L&T Financial Services.

Among vegetables, while the price of onions fell 9.1 percent in May, those of tomatoes were up a huge 61.5 percent. Potato prices were up 8.9 percent, data from the consumer affairs department showed.

Some of the other food items to display a month-on-month increase in price in May include salt (1.7 percent), wheat (1.5 percent) and sugar (0.8 percent).

According to Rahul Bajoria, chief India economist at Barclays, food and beverage inflation is likely to come down from April's 8.1 percent, but stay elevated at 7.6 percent in May.

However, an extremely favourable base effect will more than cancel out the sequential increase in prices.

Base favours

Retail inflation for any given month is arrived at by calculating the percentage change in the CPI for the month over the same month in the previous year. As such, if the index rose by a large amount in the same month last year, it could lead to lower inflation in the latest month.

In May 2021, the CPI was 160.4—1.6 percent higher than the 157.8 seen in April 2021. In April 2022, the CPI was 170.1. So, if the month-on-month increase in the CPI in May is less than 1.6 percent, CPI inflation will fall from its April figure of 7.79 percent. In fact, CPI inflation could fall to as low as 6 percent in May if the index was unchanged at 170.1, although this is extremely unlikely.

Apart from a favourable base effect, lower fuel prices also helped pull down inflation in May. The average price of petrol and diesel was around 2 percent lower in May compared to April on account of the cut in the excise duty announced by the Centre on May 21, according to data from the government's Petroleum Planning & Analysis Cell. However, the full impact of the fuel tax cut is expected to be reflected in the June inflation number.

Core inflation, seen as an indicator of underlying demand, is expected to moderate sharply from April's 7 percent. However, this too would be due to a favourable base effect, with prices likely to show strong sequential momentum.

"The impact of the increases in the prices of generic drugs approved earlier in April should also be visible in May healthcare costs. Surging costs for a variety of intermediate goods are now beginning to be passed on to retail customers," Barclays' Bajoria said.

According to the S&P Global's Purchasing Managers' Index survey, manufacturers increased their selling prices by the most in over eight-and-a-half years in May. Meanwhile, the survey for the services sector showed the rate of inflation surged to the highest in over 16 years.