FE Editorial : For sentiment’s sake

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SummaryThe latest inflation data has been a bit of a shocker—WPI rose 7.55% yoy in August, on a high base and from 6.87% yoy in July.

The latest inflation data has been a bit of a shocker—WPI rose 7.55% yoy in August, on a high base and from 6.87% yoy in July. While prices have risen pretty much across the board, the index has gone up more than expected because the recent increases in electricity tariffs have kicked in. There could be more of that in the future given that the gap between the cost of production and the sale price remains high. The big push to inflation will, of course, come from the R5/litre hike in diesel prices together with the annual cap on LPG cylinders per family, which will add an estimated 125 basis points, the full impact of which we should see in the October data. The other driver will be QE3, which will keep prices of commodities high and the price of crude oil elevated at over $100 per barrel. Since exports remain sluggish, the rupee may not recover soon and that means imports remain costly. In sum, inflation could nudge closer to 9% by the end of the year. Also, from RBI’s point of view, inflation in manufactured products rose 0.8% in August, suggesting corporates still have a fair bit of lost pricing power. Consumption demand, on the other hand, has slowed sharply as the IIP data showed.

Nonetheless, given there will be some losses to revenue because of the cut in excise duties on petrol, unless the government cuts back on expenditure seriously, or ups the prices of auto fuels, there’s virtually no chance of the deficit being reined in at 5.1% of GDP—it will be closer to 6%. So, RBI really has no case for cutting rates; it’s true the government has shown some spunk in the last few days but the tough decisions are yet to be taken—on the Land Acquisition Bill, for instance. However, a small cut of even 25 basis points—followed up by a base rate cut by banks—would ease the pressure on corporate cash flows. And perhaps change the mood.

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