Retail inflation spikes to 6.3%: What will RBI do now?

Leading financial market research institutions and broking firms have expressed surprise over the sharp jump in India's retail inflation, a 6.3 percent year-on-year increase, in May 2021. However, analysts do not expect RBI to tweak the lending rates immediately to manage inflation though the rate exceeds the inflation target range set by the Reserve Bank of India (RBI) .  

The inflation data (All India Consumer Price Index or CPI), released by the National Statistical Office (NSO) of the Ministry of Statistics and Programme Implementation (MoSPI) on June 14, indicates that the rise, a six-month high, was driven by price increase across the board, with food and fuel prices taking the lead. "Headline inflation was above Bloomberg consensus of 5.4 percent YoY and our expectations of 4.7 percent YoY - v/s 4.2 percent YoY in April '21," said broking firm Motilal Oswal in an investor note.  

Earlier, price increase in manufactured products, fuel and power had seen Wholesale Price Index (WPI) inflation rising to 12.9 percent YoY in May. WPI food inflation (both primary and manufactured products) had risen to a 16-month high of 8.1 percent in May.

Anand Rathi Research termed the unexpected jump in retail inflation in May and WPI inflation at 13 percent  as highly discomfiting. "Unless the situation mends, the RBI may look at lowering the extent of accommodation," the firm said.  "A drop in food inflation was the prime reason for the fall  in retail inflation in April. A reversal of this has been the key factor behind the rise in inflation in May. Despite being in deflation, vegetable inflation rose sharply vs. the last month. Edible oil inflation continues to rise and has crossed the 30 percent mark. Protein inflation - egg and pulses - also hardened.  Core inflation at a 7-year high. At 6.6 percent in May'21, core inflation was at a 7- year high and rose sharply from 5.4 percent last month. Hardening of manufactured product prices and some increase in services inflation led to this," Anand Rathi's retail inflation monthly report pointed out.  

Nomura analysts Sonal Varma and Aurodeep Nandi said that they now expect CPI inflation to average 5.6 percent y-o-y in 2021, versus 5 percent earlier, and core CPI inflation to average 6.2 percent (vs 5 percent earlier). "Our quarterly trajectory has headline inflation rising from 5.7 percent y-o-y in Q2 to 6.3 percent in Q3, before moderating to 5.7 percent in Q4 on base effects (for food inflation)," Nomura's Asia Insights predicts.  

The analysts, while ruling out immediate RBI intervention, agree on the fact that the inflation has made RBI's decision-making tough.

"Much of the recent growth recovery is on account of the low base and stimulus effect. Accordingly, monetary policy accommodation (of RBI) is likely to continue for now. Yet, unless inflation is tamed, the extent of accommodation can come down," say Anand Rathi economists. Motilal Oswal points out that "although it (the current rise in inflation) is unlikely to lead to any monetary tightening, inflation above 6 percent certainly rules out any further monetary easing".

Nomura says that the upside surprise in May CPI will throw a spanner in the RBI's Monetary Policy Committee (MPC)'s growth priority stance. "Unlike April 2020, the MPC cannot ignore the rise as statistical. We do not expect the MPC to have sufficient information to judge whether the inflation rise is transitory or the hit to Q2 GDP growth due to the second wave at the next MPC meeting in August. Hence, we expect the RBI to revise its CPI inflation projection higher in August but remain in a 'wait and watch' mode", they note. 

Also Read: Retail inflation rises to six-month high of 6.3% in May