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Emerging Economy

6th July 2010

Indian Economy Next Quarter

	Long overdue fuel price decontrol to bring in volatility and mild upward pressures on prices
	IIP growth high on revival and base effect, will see sustainable 8-10% levels by the third quarter
	Manufacturing products inflation to peak around 7% before trending down to 5% by March
	RBI raises rates mid-policy as a signal ? expect moderate raises through the year ahead

India : Kal, aaj aur kal

Something happened this summer, inflationary heat finally made the RBI uncomfortable enough to increase the rates much before the monetary policy was due. So is this a new RBI that is no longer as cool towards rising prices? Those who think so believe that the RBI will hike interest rates yet again end of the month. But we do not think so; this RBI is inherently not in favour of a high interest rate regime. So why the mid-policy surprise? It appears the RBI wants to send out a signal of being pro-active and in control right before a delayed monsoon and energy price rise. So expect the interest rates to get higher only if the going gets really bad on the price front. Though possible, this is not likely.

The high WPI inflation has been due in large part to food price rises, which are now already trending down. What will be crucial is inflation in the manufacturing sector, this has been on the up-trend so far; we expect prices of manufacturing prices to be in the 6-7% range this quarter till September and thereafter move down to 5% levels by March.

What about the industrial production? IIP growth is also expected to have already peaked and will move down from May. Growth here has been powered by two segments ? consumer durables and capital goods. Auto sales have been zooming up this past year, but these are set to slow down ahead with the fuel and rate hikes. Though we expect the consumer durables segment to come off its highs by the third quarter of this year, it will stay around the 10% growth levels this year, as income prospects continue to remain bright. The capital goods segment has seen phenomenal growth recently as it picked up steam from where it left off when hit by the crisis of confidence in late 2008. While part of the high growth is due to the base effect, all plans for expansion that had been put on hold are being put into action with the return of the India growth story. We expect that this abnormally high growth of more than 30% yoy in capital goods will taper down to more sustainable levels by the third quarter. This still leaves the IIP in a very comfortable zone of 8-10% growth in the year ahead. The RBI therefore can afford to put a wait and watch policy in its policy review this month end.

More than the rate hike, what may hurt expansion and consumption plans more can be a surge in fuel and input prices. We were pleasantly surprised to see the government bite the bullet and move towards market determined fuel prices, this was long overdue. According to EIA estimates, there are pressures for a modest rise for the rest of the year with a wide range of probable scenarios. They put a 37 percent probability of the December 2010 WTI price falling below $70 per barrel and a 25 percent probability of it exceeding $90 per barrel. But movement even in the 70-90 range will create significant volatility in prices in India now that we are going in for flexibility. So uncertainty with upward pressures persist in the year ahead and we need to watch out for that.

Even with all the uncertainty on prices and rate hikes, however, as we said in our last column, growth is back and it is here to stay.

Please see accompanying graphs here

Sumita Kale and Laveesh Bhandari

6th July 2010, Indicus Analytics

Sumita Kale is Chief Economist, and Laveesh Bhandari is Director, Indicus Analytics. They can be contacted at sumita@indicus.net and laveesh@indicus.net

Economic Growth

	IIP growth high at 17.6% yoy for April, manufacturing at 19.4%, mining at 11.4%, electricity at 5.7%.
	In May infrastructure sectors grew by 5% over the previous year, compared to 3.2% growth clocked last May. Cement at 8.6% and petroleum refinery products at 7.7% were the fastest growing sectors.
	Electricity production in June grew by 4.0% according to provisional estimates by CEA.
	HSBC Purchasing Managers Index showed expansion in June, but at a slower pace than before, the index stood at 57.3. While total new orders growth moderated, new export orders accelerated in June.
	The Naukri JobSpeak index for May dipped by 10% over the April index, the three month moving index indicates a steadier hiring scenario. Year on year, all major cities and industries show a positive trend.
	June auto sales dipped compared to the previous month, the industry put this down to the monsoon, routine shut-down for plant maintenance and component supply constraints. Maruti Suzuki's sales dropped 12 per cent to 88,091 units in June from the peak of one lakh plus sales in May. However, on a year-on-year basis, Maruti's sales grew 17 per cent from 75,109 units in June 2009.
	In May, 16.30 Million new wireless subscribers were added, bringing overall tele-density to 55.38, broadband subscription now stands at 9.24 million.

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Inflation

	WPI inflation for May stood provisionally at 10.2%, while March estimates were revised upwards to 11.04% year on year.
	Inflation for manufacturing items stood at 6.4% for May.
	Food article inflation is trending down, but still at high levels of 12.92% for the week ending June 19th. Pulses still stand out as a concern with pressures not abating.
	Fuel price hike to raise inflation levels for end-June, though the decontrol was long overdue.
	CPI inflation continues to be high, 13.91% for CPI IW and 13.68% for CPI AL, with food items playing a larger role in these indices.
	Crude oil dropped into the $71-74 a barrel range in June, prices are expected to stay above the level of 70 in the next six months.

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Interest Rates

	The RBI raised the repo and reverse repo rates by 25 basis points each on July 2nd, ahead of the policy review at the month end.
	The 10 year benchmark gilt that was hovering around the 7.5% yield mark had discounted the rate hike and moved up slightly to 7.669% on 5th July.
	Rate hikes are expected throughout the year at a modest rate as inflation pressures need to be curbed in the manufacturing sector.
	China, Korea are looking at the possibility of a rate hike to end the current low regime but are still grappling with constraints of capital flows for the former and depressed property market in the latter.

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Exchange Rates

	India?s exports during May were valued at US $ 16.145 billion, 35.1 % higher in dollar terms (27.5 % higher in rupee terms) than the previous year.
	Imports were valued at US $ 27.437 billion, a growth of 38.5 % in dollar terms (30.8 % in rupee terms) over the previous year.
	Oil imports during May were valued at US $ 8.844 billion, 66.7 % higher than last year. Non-oil imports during May were estimated at US $ 18.593 billion, 32.3 % higher than the previous year.
	The trade deficit for April - May, 2010 was estimated at US $ 21.712 billion which was higher than the deficit of US $ 14.509 billion during April -May, 2009.
	The RBI released BOP data for the quarter 2009-10. After four consecutive quarters of decline, on a year-on-year basis, services receipts recorded a growth of 13.4 per cent led by software and financial services. Private transfer receipts continued to be robust during Q4 of 2009-10.
	Net invisibles, however, declined mainly on account of relatively higher invisibles payments due to larger payments on account of business, financial, communication and transportation services.
	The higher trade deficit combined with the lower invisibles surplus widened the current account deficit in Q4. The surplus in the capital account increased mainly due to portfolio investment and short-term trade credits.
	The overall balance was in surplus at US$ 2.1 billion, which resulted in a net accretion to foreign exchange reserves of equivalent amount in Q4 2009-10
	The rupee has been stable in the 46-47 to a dollar range during the month of June. It is expected to be in the range of 46-48 over the next three months.

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