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Inflation eases in Jan, rate rise seen

Country's inflation eased less than expected in January to 8.23%, holding well above the central bank's comfort zone and reinforcing expectations it will raise interest rates at its March policy review.

business Updated: Feb 14, 2011 15:21 IST

Country's inflation eased less than expected in January to 8.23%, holding well above the central bank's comfort zone and reinforcing expectations it will raise interest rates at its March policy review.

India suffers from the highest inflation of any major Asian economy even after seven rates rises in a year and analysts doubt a 7% target for the end of March set by the Reserve Bank of India can be reached when price pressures are spreading from food and fuel deeper into the economy.

The wholesale price index (WPI), the country's main inflation gauge, rose in the year through January more than the 8.05 percent forecast in a Reuters poll. But the rise was weaker than an 8.43% increase in December's data.

"This is still a very elevated level and above consensus," said Dariusz Kowalczyk, senior economist and strategist at Credit Agricole CIB in Hong Kong.

"We are not convinced that inflation will decline as the RBI is projecting and more tightening from RBI (the central bank) is likely during the course of the year to control inflation expectations."

Global food prices are at record highs and crude oil is on the rise, while India's poor infrastructure and low agricultural productivity add to inflationary pressures.

Wholesale food prices jumped 15.7% in January compared with 13.6% in December, leading to fears that food inflation was leading to sustained price rises in other sectors of the $1.3 trillion economy.

One-year and five-year swap rates rose 2 basis after the price data.

The government is increasingly worried high inflation could eat into growth by denting investor confidence. A lack of progress on economic reforms and a telecoms corruption scandal that has weakened the ruling coalition also weigh on business sentiment.

High food prices also pose a political challenge, drawing voter ire ahead of state elections later in 2011 that will help determine the strength of the ruling coalition for the rest of its term.

A Times of India poll on Sunday showed that high inflation had eroded household budgets of many Indians and that many voters believed the government had not done enough to tame rising prices.

The central bank said in 2010 that it would be comfortable with inflation between 5% and 6%. But it raised its forecast for the end of the current fiscal year to 7% after its last policy meeting in January. Analysts saw the move that followed an interest rate increase as a sign that the central bank would raise rates again, especially given that even the increased forecast looks doubtful.

They say pressures from food and energy inflation are spilling over to other sectors of the economy, such as manufacturing that is running at close to capacity.

"The strength of inflationary pressures is visible from the fact that despite significantly high statistical base effect... headline inflation just eased by about 20 bps, " said Gaurav Kapur, senior economist with the Royal Bank of Scotland.

"This was in part due to a 0.8% month-on-month jump in manufactured products inflation, where all key categories saw rising prices."

Asia's third largest economy is expected to grow 8.6% in the current fiscal year that ends in March, but a dip in industrial output growth to a 20-month low in December, added to fears that the economy could lose momentum.

Some economists blamed a high statistical base effect for the weak result. Others, however, warned of a scenario where limited capacity hampered growth while adding to inflation, fuelled in part by credit growth of around 23%.

Adding strains to the economy, the current account deficit is projected at 3% of GDP in this fiscal year to the end of March, a pace some policy advisers say is not sustainable.

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