Inflation Falls to 4.70%, Is The Rate Hike Cycle Over?

Consumer inflation falls sharply in April 2023

For the last few months, critics have been waxing eloquent about how rate hikes worked in the US but is not working in India. Many of these voices would now be silenced after the MOSPI reported a 96 bps fall in consumer inflation for April 2023 from 5.66% to 4.70%. Already, the rate of inflation at 4.70% is well below the RBI outer tolerance limit and represents a multi-year low for the Indian economy. More importantly, consumer inflation in India is now down a full 409 basis points from the peak level of 8.79% reported in April 2022. Remember, that between May 2022 and February 2023, RBI hiked repo rates by 250 basis points from 4.00% to 6.50%. In response, inflation has fallen 409 basis points. This is despite RBI last hiking rates in February and then desisting, despite Fed hawkishness. 

Food inflation falls, so does core inflation

The table below captures the headline inflation along with the food inflation and the core inflation component. Core inflation is the residual impact of inflation basket after the food and energy items are removed. Food inflation has fallen 95 bps over March 2023 to 3.84% while core inflation fell 65 bps to 5.30% over last month. From the peak of September 2022, food inflation is down 476 bps. Core inflation is finally well below the 6% mark. 

Data Source: Ministry of Finance Estimates

One of the objections to monetary policy had been that WPI inflation had fallen over 1300 basis points from the peak, but CPI had not kept pace. That is bound to happen as CPI inflation is less sensitive and usually follows WPI inflation with a lag. 

April inflation fell across rural and urban India

In the last few months, there was a see-saw between urban and rural inflation. For instance, till the month of January 2023, it was urban inflation that was bearing the brunt, which shifted to rural inflation in February and March 2023. In April, the decline has been stable across rural and urban India. Let us look at some numbers. Between March 2023 and April 2023; overall inflation fell from 5.66% to 4.70%. In this period, rural inflation fell from 5.51% to 4.68% while urban inflation fell from 5.89% to 4.85%. 

At a macro level, the situation looks a lot more balanced and stable in rural and urban India. Even if you look at food inflation; then rural food inflation fell from 4.72% to 3.83% over March 2023, while urban food inflation fell from 4.82% to 3.69%. Having said that, there are some discrepancies still. For instance, cereals inflation is still much higher in rural India. However, rural India saw lower inflation in eggs, meat, fish, and milk.  The exception is spices, which saw much higher inflation in rural India than in urban India. 

Good news on core inflation front 

As we stated earlier, core inflation excluding food and fuel prices, which is more volatile. Core inflation had been identified in the Economic Survey of 2022 as the key inflation to tackle. There is a reason. Core inflation is structural in nature and reflects the supply chain constraints. Hence, it is a lot stickier and harder to control through demand or supply tweaks. Core inflation in India had been elevated at 6.1% but fell to 5.95% in March 2023 and further to 5.30% in April 2023. Core inflation matters because as long as it stays elevated, it is tough to bring down headline inflation. The government would like to see core inflation at 4%, but that may still be some time away. The core inflation fall gives real hope to the RBI that its monetary tightening may just about be succeeding.

With lower inflation, is the RBI rate hike cycle over?

The last rate hike by the RBI was done in February. In April 2023, the RBI held the status quo on rates. In between the Fed had hiked rates by 25 bps each in March and again in May 2023. Here are 5 reasons why the RBI would hold rates at current levels and not worry about hawkishness for now. 

1. IIP growth for March 2023 has come in sharply lower at 1.14%. This has been largely on account of the manufacturing and power sectors. This could be cyclical, but the RBI would not want to squeeze the industry too much.
   
    
2. In a sense, the inflation interpretation is correct. With headline inflation for April 2023 sharply lower at 4.7% and core inflation at 5.3%, RBI has reasons for status quo on rates, at least for the time being till there is greater clarity.
   
    
3. RBI is unlikely to be influenced by the US banking crisis since it appears to be a localized issue for now. It may hit Indian companies through weak exports and lower tech spending, but impact on Indian banks would be minimal.
   
    
4. The rising cost of funds in India is an issue. Funding costs are impacting company solvency and RBI cannot take chances at a time when growth is just recovering. Pressure from industry bodies is building up.
   
    
5. Lastly, the one key deciding factor would be whether the monsoons and the Kharif output this year would be normal. The first reliable data comes in June and July, so it looks like status quo on rates in the June 2023 policy too.

Content source: MOSPI