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How lower inflation affects you

India’s WPI-based inflation fell to a three-year low of 5.96% in March, triggering expectations that the RBI will slash interest rates in its monetary policy review in May. HT explains the interest rate, price and growth linkage.

india Updated: Apr 16, 2013 22:49 IST
Gaurav Choudhury

India’s WPI-based inflation fell to a three-year low of 5.96% in March, triggering expectations that the RBI will slash interest rates in its monetary policy review in May. HT explains the interest rate, price and growth linkage.

What does the latest price data say about trends in India’s inflation rate?
Wholesale price index (WPI)-based inflation rate—India’s most watched cost-of-living index—stood at 5.96% in March , down from 6.84% the previous month and 7.69% a year ago. The sharp decline in WPI inflation, the lowest since December 2009 when it stood at 4.95%, comes on the heels of a moderation in March consumer-price index (CPI) inflation—a more realistic index as it captures retail prices — announced last week, to a four month low of 10.39%. Average WPI inflation for 2012-13 stood at 7.3%, significantly lower than 8.9% inflation recorded in 2011-12. According to credit rating firm Crisil, core or non-food manufacturing inflation continued its downward momentum and fell to 3.5% in March, reflecting reduced pricing power of companies due to slowing demand in the economy. Household consumption growth slipped to a decadal low of 4.1% in 2012-13.

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What about food inflation?
Food inflation, which carries a 14.34% weight in the overall WPI basket, fell to 8.73% in March from 11.38% in February, pulled down by lower vegetable prices.

What are the latest trends in protein based items?
Inflation is not what it used to be. Economists have their task cut out in trying to ensure growth while keeping prices in check. Their latest worry is that food prices are revealing a new pattern reflecting the challenges of a growing economy.

As the tens of millions of people shift to higher standards of living, the focus is changing from basic needs of nutrition to such as rice and coarse grains to more aspirational products like protein rich eggs, meat and fish.

Data over the last few years show that prices of protein-rich food items such as pulses, milk, eggs and fish have risen faster that overall food prices. At relatively low levels of per capita income, carbohydrate-rich diets, based on cereals such as wheat and rice, dominate protein-based diets. This trend is showing signs of reversing with rising incomes.

Experts reckon that for a variety of welfare schemes such as the National Rural Employment Guarantee Act (NREGA) there has been rise in rural wages prompting higher sales of so-called “urban” goods in the countryside.

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What does the latest price data reveal about rural demand for such goods?
Weakening rural demand in 2012-13 has also reduced protein-food (milk, egg, fish and meat) inflation, which had risen significantly over the last few years driven by high growth in rural incomes. Average protein-food inflation declined to 10.4% in 2012-13 from 11.3 % in 2011-12 and 23.2% in 2010-11.

So, are we out of the woods on the price front for the time being?
Not really. Prices of staples such as rice and wheat, though declining, continue to remain at elevated levels. For a country that is planning a food security law that will ensure cheaper government-subsidised food grains to two out of every three citizens, persistently high cereal prices can prove worrisome for policy makers.

How would lower inflation prompt the Reserve Bank of India (RBI) to cut interest rates?
The RBI uses monetary tools such as the repo and reverse repo rate to stymie demand and cool prices. If prices remain elevated, the RBI maintains interest rates at high levels to dissuade people from buying more goods and temper down demand.

What is repo rate?
It is the rate at which the RBI lends to banks. The repo rate now stands at 7.5%.

How does repo rate influence interest rates that banks charge customers?
A lower repo reduces banks’ borrowing costs, allowing them to cut interest rates for home, auto and corporate borrowers.

What is reverse repo rate?
It is the rate at which RBI absorbs cash from the system. A higher reverse repo the central bank would suck cash from the system to stymie demand and cool prices. It currently stands at 6.5%.

What is the RBI expected to do in wake of the latest price data?
The RBI is widely expected to cut lending rates in its review meeting on May 3 as India’s key currency administrators and macroeconomic managers seek to jumpstart the economy that is estimated to have to have crashed to a decade-low growth of 5% in 2012-13. The bank has already cut the repo rate twice since January and business leaders have been racheting up their demand for a repeat action.

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