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Costlier food items pushed the retail inflation to a 17-month high of 6.95% in March, much above the upper tolerance level of the Reserve Bank of India (RBI) and well beyond analysts’ expectations, according to government data released on Tuesday.

Unless the inflation cools significantly in April – the chances of which are not very bright given the recent spike in coal & gas prices and rise in power tariffs – the Monetary Policy Committee might have to start the next rate-hike cycle at the June review itself. For the third straight month to March, inflation remained above the RBI’s medium-term target of 2-6%.

On April 8, the RBI not only had raised its inflation forecast for FY23 to 5.7% from 4.5% and projected it to average 6.3% in the June quarter, but had ended its over-two-year-long ‘easy money’ policy. It made banks to park funds with the RBI under a new standing deposit facility at 3.75%, 40 basis points higher than under the reverse repo window.

Food, the most volatile and dominant component of CPI with an almost 46% weight, has been the key driver of inflation, surging 7.7% in March from 5.9% in February. The highest food inflation since November 2020 indicates that the poor, whose consumption basket has a much larger share of food compared with the rest of the population, are bearing the brunt of elevated prices. All items under the food bracket except pulses witnessed a rise in inflation in March, as vegetables (11.6%), edible oils (18.8%) and ‘meat and fish’ (9.6%) posted the sharpest jumps. A relatively low base (food inflation was just 4.87% in March 2021), too, weighed on the inflation calculation.

The price pressures have also been fairly broad-based across goods and services; core inflation rose to 6.4% in March from 5.8% in February, having exceeded the 5%-mark for 22 months now.

Though fuel inflation moderated to 7.5% in March from 8.7% in February, as domestic prices of petrol, diesel and liquefied petroleum gas were only raised in the second half of the month, a hike in the relevant sub-index could be expected in April, given the elevated auto fuel rates and the recent sharp increases in CNG and piped gas prices.

“We find that the rural bottom 20% faced the highest inflation at 7.7% in March, compared with 7.7% for the middle 60%, and 7.6% for the upper 20% of income segment. In urban areas, too, it was the bottom 20% that faced the highest inflation (6.4%), followed by the middle 60% (6.3%) and the upper 20% (6.1%),” Crisil Research wrote.

The elevated price pressure suggests firms have started passing on the rising input cost to consumers, albeit to a limited extent.

As oil marketing companies continue to raise fuel prices following a spike in global crude oil prices in the wake of the Ukraine crisis, inflationary pressure will remain elevated in April, especially if the domestic currency weakens against the dollar, some analysts caution. Of course, a favourable base effect will somewhat help from April-May.

Fuel and light inflation, according to the CPI, continued to remain elevated at 7.52%, although it eased from 8.73% in the previous month. This is partly because the hike in petrol and diesel rates isn’t captured by the “fuel and light” segment of the CPI; rather, it gets reflected in core CPI inflation (unlike in the wholesale price index).

India Ratings principal economist Sunil Sinha pointed out that most of the commodity groups touched multi-months high in March – cereals and products (19 months), milk and products (16 months), vegetable (16 months), clothing (100 months), footwears (111 months), household goods and services (102 months), personal care (13 months) and food index (16 months).

“We have been pointing out that the health and household goods and services inflation is turning out to be structural, because in the last 15 months, health inflation has been in excess of 6% and household goods and services inflation is in excess of 5% in the last 10 months,” Sinha said.

Elevated price pressure, on top of fragile industrial recovery (although the index of industrial production improved in February, it grew by only 1.7%) will compound the worries of policy-makers as they seek to soften the blow of the global oil price rise to the Indian economy as well as consumers.

The RBI now expects the persistence of elevated input cost-push pressures for a longer period than assumed earlier, given the broad-based rise in international commodity prices. It has assumed normal monsoon and average crude oil price of $100 per barrel while firming up the latest inflation forecast.

Aditi Nayar, chief economist at Icra, said: “We now expect to see 50-75 bps of rate hikes by the end of the second quarter of this fiscal, followed by a pause in H2 FY23, and perhaps another 50 bps of hikes in FY24.” She also expected 10-year G-sec yield to cross 7.2% imminently. “With dimming hopes of early bond index inclusion, the 10-year G-sec yield could test 7.5% in H1 FY23,” she added.

Much, however, depends on the persistence of the Russia-Ukraine conflict and consequent volatility in global oil and food prices. A 10% rise in crude oil prices, according to Nomura, typically leads to a 0.3-0.4 percentage point (pp) rise in headline inflation and shaves off about 0.20pp from GDP growth.

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Author: Howard Caldwell