India Meteorological Department on Tuesday predicted that Southwest Monsoon will be “normal” this year and the country will receive 96 per cent of Long Period Average. However, El Nino will remain a probable threat, but IMD highlighted that during 34 per cent of El Nino years, monsoon season rainfall was normal or above normal. A good monsoon means a recovery in the rural sector which is already reviving on the back of last year’s La Nina. Bank of America Merrill Lynch (BoFA-ML) in its research report said since monsoon will revive the rural sector, therefore investors should play consumption over investment.
The analyst also expects that Reserve Bank of India’s Monetary Policy Committee (MPC) will take into consideration normal monsoon and go for a rate cut when it meets on August 3 this year. We take a look at the observations made by BofAML vis-a-vis monsoon:
1. Rural demand is already turning around on the 2016 La Nina. Kharif autumn farm income jumped 26 per cent after 4 per cent drops in the past 2 years. Wheat farmers should also see an increase of 13 per cent – the highest in recent years.
3. The economy is recovering from the demonetization shock. The adverse wealth effect is unlikely to be major with media reports suggesting that the Income Disclosure Scheme II has disappointed. The just-announced UP farm loan waiver indicates that public rural spend will go up in the run up to the 2019 polls.
4. Good rains should allow the RBI to cut rates by 25bp on August 3. As the central bank has just hardened stance, it will likely wait for transfer of the ‘special’ dividend to the fisc from demonetized notes and clarity on rains before cutting.
5. BoFA-ML feels that inflation risks are overdone. Weak growth, at 4.5-5 per cent in the old GDP series, well below their estimated 7 per cent potential/trend, continues to curb pricing power. Not surprisingly, core CPI inflation has slipped to 4.2 per cent from 4.8 per cent in October, when the RBI cut last. Daily data suggest that food inflation is actually coming off. While the El Nino is a risk, the RBI has itself highlighted the importance of supply management as a policy response.
6. Commodity prices to stabilize in 2017, reducing the pressure on imported inflation by 1Q18.