Headline inflation for February came in at 7% y-o-y, higher than the 6.6% y-o-y in January, a gentle reminder that prices continue to go up at a brisk pace.
In fact, the CPI for February would have jolted many; the number was nudging 9%y-o-y compared to 7.7%y-o-y in January.
The good news was that core inflation eased to 5.5% y-o-y, partly helped by a base effect, though primary food prices rose by a sharp 6.1% y-o-y, driven by vegetable prices. It?s clear that inflation is going to remain elevated, given that we have the cascading impact of higher excise and service tax levies to contend with as also the higher cost of railway freight and coal.
Then, there?s imported inflation, now that the rupee is trading above the 51 mark to the dollar.
And there is suppressed inflation since the government is yet to increase prices of fuels to match the higher cost of crude oil now at roughly $122.50 per barrel.
Should the government pass on even half the cost, the impact would be about 150 basis points. With the high base effect going away from April, it?s hard to see inflation at even 6.5-7% levels; indeed the level for 2012-13 is likely to be closer to 7.5%. Prices of some key commodities, are expected to come off, with the Chinese economy slowing down.
But despite that, we would be fortunate if inflation doesn?t cross 7.5% this year, given that the view on crude oil prices, at this juncture, is that they would continue to rule above $115 per barrel.
Given the inflationary pressures in the economy on the one hand and slowing growth on the other ? the Reserve Bank of India (RBI) must be in a predicament on whether to cut policy rates or not when it meets next week to review the monetary policy.
For sure, a 25 basis points cut, or even 50 basis points for that matter, is not going to put the economy back on the rails; for that to happen the government needs to get its act together and the drift in policy-making needs to end; the shortage of key resources, such as coal and iron ore, needs to be sorted out as do a host of other policy issues, environment clearances, tax codes for foreign investors.
In the meantime, however, the RBI could help the sentiment by trimming rates a bit; if the key repo rate has been held at 8.5% because inflation is ruling above 9%, it could be lowered a bit now that inflation is expected to stay within 9%.
There are no guarantees and inflation could head higher but there can?t be too much harm done by a 25 basis points cut, with the accompanying commentary clarifying that the trend could be reversed if the situation took a turn for the worse.
The move would certainly soothe the bond markets, reeling under the onslaught of the government?s massive borrowings ? the yield on the benchmark bond has crossed 8.6%. And although interest rates do not hit larger corporates too much, they do tend to hurt smaller companies and ancillary units.
In fact, it?s not clear by how much banks would lower rates, but theymay help out the SMEs. So, while the impact of a rate cut may not be far-reaching, it could do a lot to lift the sentiment.