Some market participants were hoping that Reserve Bank of India (RBI) will leave the policy rates unchanged in the December monetary policy meeting while waiting for the new monetary policy framework to be announced later this month. The overall macro backdrop, particularly on the external sector, is more comfortable now. However, the ugly November inflation prints of CPI at 11.24% and WPI at 7.52% (a 13-month high) seem to have bolstered the chances of a 25 bps hike in the repo rate to be announced in the December policy. In fact, there is now a worry that whether RBI will be proactive and hike rates by 50 bps to signal a strong anti-inflationary bias. We do not think a 50 bps hike is necessary because it is important to look beyond the headline CPI and focus on the internals.
Clearly, the November CPI has been significantly higher than market expectations and RBI’s projected trajectory as given in the October monetary policy statement. However, the surprise came from a rather unusual source. The CPI index went up 1.4% between October and November (month-on-month change) which was primarily driven by a 9.3% month-on-month increase in vegetable prices, and even in WPI, vegetable price inflation was at an all-time high of 95%. In fact, the core CPI (ex food and fuel) has actually declined marginally in November to 8% from 8.1% in the earlier month. It is true that vegetable prices were rising consistently in the last few months and the vegetable price increase in the CPI index (46% year-on-year in October) was lagging the increase in WPI index (78% year-on-year in October).
So, this could simply be a catch-up to wholesale prices but this runs contrary to the argument that the fresh supply arriving in October and November should have addressed the temporary shortage in the earlier months.
To better understand this puzzling issue of rising vegetable prices in the CPI, we looked into state-level CPI data and found an interesting peculiarity. The states that fell in the path of the cyclone Phailin had much higher month-on-month inflation for November. Although Phailin had hit the