Given exceptionally buoyant indirect tax revenues and August IIP at a 3-year high along with a consumer inflation that has remained under control despite two successive droughts, India appears on the path to slow but sustainable recovery. While food inflation rose to 3.9% in September as compared to 2.2% in August, much of this is related to the favourable base effect disappearing. Indeed, if you strip out pulses where the crop was hit by the lack of rain, food inflation is a lower 3.2%. Indeed, cereals inflation has all but collapsed from 5.6% in September last year to 1.4% in September this year, as have eggs from 4.5% to 1.2% and vegetables were at zero percent in September after being in the negative zone for the two months prior to this. That food inflation should be so benign, of course, is a combination of several factors ranging from better food management by the Centre—lower MSP hikes as well as a credible threat that food stocks will be dumped if need be to quell inflation—and softer global commodity prices; low vegetable inflation suggests the spatial distribution of rain may have something to do with this. Though another rate cut is not on the cards since RBI has made it clear it was frontloading rate cuts, it does appear inflation for the year will be in the 5.3-5.4% range, or lower than RBI’s projections, opening up the possibility of a rate cut in early FY17. In any case, with greater opening up of the bond market to FIIs, RBI is creating conditions for more monetary transmission as bond yields will further soften.
The picture on IIP is a bit more mixed. There is a definite rural-urban differential that can be seen. Tractor and two-wheeler sales, essentially rural products, have fallen while passenger cars have grown at a steady 7.5% or so since the beginning of 2015—given the collapse in rural incomes after two successive droughts and the delay in crop compensation, this is only to be expected. Manufacturing has not grown at 6.9% levels since October 2012 when it grew at 9.9%, but there are some blips that are unlikely to be repeated soon. Gems & jewellery contributed 1.7 percentage points to IIP growth and rubber cables 1.6%—that’s around half the IIP growth for August. Both look like one-off items and gems & jewellery is probably related to stocking up for festive season demand—this is what drove consumer durables production up. Indeed, the dramatic 21.8% hike in capital goods makes little sense given the poor level of demand coupled with large amounts of spare capacity in most industrial sectors—the growth is largely driven by the base effect since capital goods contracted 10% in August 2014. In short, India presents a mixed picture with indirect taxes growing smartly—even after you strip out the additional imposts made in the budget—along with demand for cars and aviation traffic and even the ratio of ratings upgrades to downgrades. On the flip side, direct taxes are doing badly, exports are showing no signs of picking up after contracting for the ninth month in a row, there is virtually no demand for bank credit—bank balance sheets will take another hit once the new electricity discom package is finalised over the next few weeks. Such two-speed recovery, though, is par for the course in any recovery, albeit weak ones.