India Insight:CPI inflation decelerates further

Headline CPI inflation decelerates further, to 3.17% YoY, in Jan-17: Thiscompares with 3.4% YoY registered in the previous month. This was close tothe market expectation of 3.24% YoY. Core inflation, on the other hand,picked up further, to 5.1% YoY in Jan vs 4.9% YoY in the previous month.

Demonetization move partly results in slowing inflation momentum: Thecash shortage in the wake of demonetization adversely impacted thetransportation, distribution and sale of perishable items in the wholesalemarket, as these transactions are highly cash dependent. This resulted infarmers selling perishable items (especially vegetables, etc) at much lowerprices than required. At the same time, the slowdown in economic activity alsoresulted in reducing the demand-side pressures.

CPI inflation to remain manageable, sticky core inflation a concern: Weexpect CPI inflation to average sub-4% YoY in the Mar-17 quarter vs theRBI’s target of below 5%. The temporary slowdown in economic activityexpected post demonetisation, a bumper summer crop, good progress in thesowing of winter crops and active food management by the government willlikely keep inflationary pressures contained over the next few months.

However, we need to watch for (a) the impact of pent-up consumptiondemand on remonetisation, (b) rising rural wages (up 8.2% YoY as of Dec-16), (c) higher minimum support prices for agricultural produce and (d) globalfactors, including movement in global commodity prices (especially oil), anduncertainties regarding the direction of US macroeconomic policies, whichcould result in upside risks to inflation in FY18. We note that in the recentpolicy review, the RBI highlighted their concern about the persistence ofinflation excluding fuel and food, which could set a floor on further downwardmovements in headline inflation and trigger second-order effects.

Limited scope for further easing: We note that the banks have already cutlending rates by ~200bp on MCLRs (marginal cost-based lending rates) andby ~80–85bp on base rate vs a 175bp cut in the repo rate by the RBI. Webelieve India’s rate-cut cycle is mostly over as of now, and any scope forfurther monetary easing will be largely data-dependent.