Inflation worries in India; December MPC meet may be contentious

Of greater concern is the non-food, non-fuel inflation or the core or services inflation. Inflation in health (7.57 percent yoy), household services (6.17 percent yoy) and recreation (6.87 percent yoy) may all persist. Core inflation is up 6 percent versus 5.79 percent in September, which brings it to the upper bound of the RBI’s and the MPC’s comfort zone.

All this is happening in a context of rising inflation in developed economies like the US. Economist Chetan Ahya from Morgan Stanley said the developed world inflation is more in services like rents and won’t be imported to Asia. But the global food index of the FAO ( Food and Agriculture Organisation) is also at a ten year high. While India doesn’t import much food, items like edible oils and sugar do get influenced as do packaged foods.

The RBI like other central banks has been maintaining that inflation is due to supply disruptions and it may have a point given the contraction in consumer durables and non-durables reflected in the September IIP ( Index of Industrial Production). RBI can argue there is a persisting output gap and hence this is not demand led inflation. But if one looked at the state-wise break-up of inflation, many rich states like Delhi, Karnataka, Haryana, Maharashtra and Telangana have recorded inflation of 5-6.5 percent while relatively poorer states like Assam, Bihar, Chhattisgarh, Jharkhand and Odisha have reported 1.8-3 percent inflation ie far below the national average. There are exceptions in both categories, but the divide leaves a nagging suspicion that an incipient rise in aggregate demand is also pushing up prices.

RBI has already been nudging up short term money market rates by absorbing over 6 lakh crore rupees of surplus liquidity through its variable rate reverse repo auctions. It may, indeed, it must raise the reverse repo rate from 3.35 percent to 3.5 percent or even 3.75 percent in the December policy, some economists say. To be sure the December MPC meet is likely to be a contentious one, with external member Jayant Varma voting to raise the reverse repo rate even in the last policy.

A word on the September IIP coming in at 3.1 percent versus a CNBC-TV18 poll of 5.07 percent. Much of it appears a fallout of the coal and power shortages and the unusually heavy rains. The contraction in consumer durables is mostly driven by the automotive sector which has been reeling under chip shortages. Many of the elements in the IIP may bounce back as the energy crunch has eased. But the weakness in consumer non-durables is more worrying since this may be due to weaker demand for staples and elementary personal products reflecting the pain in the poorer and informal segments.

Indeed, there is pain in the informal economy, going by the rise in demand for work under the MNREGS and hence RBI will be loath to shift its accommodative stance. But it could be vulnerable to the charge of overstaying its accommodation, given the inflation numbers.