IIP & CPI numbers make RBI's inflation calculation go awry

Everything was going well in terms of economic progress of the country from third quarter due to better financial result shown by corporates and other favourable conditions. However, the recent CPI and IIP numbers seem to have disturbed the applecart. CPI inflation rose by100bps in February to 5.03 per cent led by unfavourable base effect, much lower sequential correction in vegetable prices, higher energy and transportation prices and select sequential increase in core goods inflation. On the other, IIP lost momentum again in January and contracted 1.6 per cent, thanks to poor manufacturing activity and muted consumer demand.

After the rapid recovery seen till October 2020, the trend in the IIP has turned volatile in the last three months, suggesting that the economy has entered into a consolidation phase with an underlying momentum that is relatively subdued. Core inflation surge of 5.72 per cent from 5.16 per cent prior, led by higher sequential gains in health, recreation, and transport costs. While the overall demand condition remains patchy, one can assume that continued traction in activity, possibly improving producers' pricing power and rising input costs weigh on the underlying inflation.

In spite of March inflation tracking 5.5 per cent, the RBI's Q4FY21 forecast could see a 25-30bps cut, in Emkay's view. It adds that the headline inflation may average 4.5 per cent in FY22E vs 6.2 per cent in FY21E, assuming that the food inflation normalises. Similarly, ICRA had anticipated deterioration in the IIP's performance in January 2021. In particular, the slippage of consumer goods back into a YoY de-growth in January is a key disappointment.

The sharp worsening in the performance of capital goods in January was led by an adverse base effect, which is expected to be transient. Unfortunately, the pointers about the forthcoming monthly data on the front of IIP are not encouraging due to low consumption, less spending by corporates and government's ever increased spending for country's Covid vaccination drive. These all are going to make a dent in the wheels of otherwise moving economic growth. So, if no further cut, then one cannot even think of continuation of the accommodative stance of the apex bank in the given scenario. Chances are, the apex bank, which will be reviewing its annual monetary policy during early next month, will soften key rates. RBI must listen to what ex RBI governor Raghuram Rajan has warned against the drastic changes in economic policy.