The WPI inflation depicted a descending trend with the data for February 2014 coming in at 4.68%, mellowing further from 5.05% reported in the month prior. This thus placed the data to a 9-month low and it breached most poll estimates which brewed a tad lower than 5.00%.
 

WPI Inflation mellowed down!

Data as on February 2014
(Source: Office of the Economic Advisor, PersonalFN Research)  

The decrease in WPI inflation for February 2014 was mainly account of:

Food inflation:
The data here revealed that food articles (which have a weightage of 14.34% in WPI) descended further to 8.12% in February 2014, from 8.80% in the previous month. But the data for the month of December 2013 stood revised to 13.73% (from 13.68%) as reported in the quick estimates. The reduction in inflationary pressures in vegetables attributed to the descending move in food inflation, where prices of kitchen essentials such as onions, tomatoes and potatoes aided in bringing down inflation in vegetables to 3.99% in February 2014 from 16.60% in the previous month and the earlier months absurdly high levels.

Likewise inflation in protein based items such as egg, meat and fish also witnessed certain decline with the data thereto coming in at 9.69% vs. 10.94% in the previous month and even higher double-digit data in the months before.

Inflation in fruits however, after having plunged to 5.32% in January 2014, once again inched-up with the data thereto coming at 9.92%.

Fuel & Power inflation:
Fuel and power inflation (which has weightage of 14.91% in WPI) too declined to 8.75% in February 2014 from 10.03% reported in the previous month. With fuel prices having reduced and benefit passed on by the Government aided this constituent of WPI to mellow. Likewise docile Brent crude oil prices and relatively stronger Indian rupee also came to aid.

However, inflation in manufactured products remained rather stiff with the data for February 2014 reporting the same level of 2.76% as it did in the previous month, despite the lull witnessed in the industrial activity. Likewise, non-food articles (which have a weightage of 4.26% in WPI) which consist of fibre, oil seeds and minerals, also witnessed a slight uptick with the data thereto coming in at 2.66% for February 2014 vs. 1.42% for the previous month.

PersonalFN's View on inflation:
While monsoon were normal this year, it did some damage to the vital kharif crops. Nonetheless the steps taken by the Government to address to the supply-chain issues brought in some relief for the common man through reduced prices - especially in case of onions and tomatoes. However, with unseasonal winter rainfall and hailstorms witnessed by some parts of the country, although sowing of rabi crops has been encouraging this year, it could turn damaging for rabi crop produce. Likewise with a possibility of an El-Nino phenomenon this year, if a draught or deficient rainfall is indeed reported, it could lead to prices of vegetable prices go up and exert upward pressure on food inflation and thus on headline WPI inflation.

As far as fuel and power inflation is concerned, with prices of Piped Natural Gas (PNG) and Compressed Natural Gas (CNG) having reduced, the threat from fuel and power inflation seems to have ebbed. Likewise with lull in industrial activity persisting, manufacturing inflation is expected to remain benign.

Thus mainly led by food inflation, CPI inflation could also be under pressure.

So, would RBI cut rates in the next monetary policy review?
PersonalFN is of the view that, although WPI inflation and CPI inflation (at 8.10% in February 2014) have reduced, the Reserve Bank of India (RBI) would keep policy rates unchanged in the next monetary policy review (scheduled on April 1, 2014). The decline in inflation seems to be in line with the expectations of the central bank, but with core WPI inflation having once again inched-up to 3.02% in February 2014 from 3.00% reported in the month prior; it would resist RBI from reducing policy rates. Moreover, the central bank would also take cognisance of the fact of unseasonal winter rainfall and its bearing on food inflation (and thus headline and retail inflation), as well as the possibility of an El-Nino phenomenon which could lead to a draught or deficient rainfall this year.

Although in the interim budget, finance minister Mr P. Chidambaram exuded confidence that the fiscal deficit would be contained at 4.6%, below the budgeted estimates of 4.8% for the fiscal year 2013-14; it is noteworthy that in the first 10 months of the present fiscal year, the fiscal deficit has already run-up to 101.6% (or Rs 5.32 lakh crore) of the revised estimates. Thus in our opinion it appears likely that fiscal deficit would be breached. The Government has already doled out populist measures ahead of the general elections in their endeavour to swing vote banks in their favour. Take for instance, an increase in subsidised LPG cylinders from 9 to 12, followed by a reduction in prices of PNG and CNG; it all seems to be a pre-poll strategy.

You see, the fiscal deficit remains a concern and has implications on the country's sovereign ratings. Global rating agency Moody's has said that India's interim budget is in line with the policy assumptions that underpin the Government's Baa3 rating with a stable outlook. However, it has cautioned that India's fiscal position remains weak. Global rating agencies like Moody's, S&P and Fitch have repeatedly threatened to lower India's credit rating and a downgrade would mean pushing the country's sovereign rating to junk status, making overseas borrowings by corporates costlier. Standard & Poor's has already said chances of a credit ratings downgrade for India was higher than for Indonesia. Moreover, the S&P has indicated that the negative outlook maintained on India may be lowered if the Government that takes office after the general election does not appear capable of reversing India's low economic growth and put the house in order. The RBI too has noted in its Financial Stability Report that the relatively high fiscal deficit was a major concern. So, it wouldn't be easy for the finance minister to walk-the-talk in view of poor revenue realisation and tardy progress of the disinvestment programme.

Impact on equity markets...
While the WPI inflation fell below most poll estimates, at the time of the release of the said data point, the markets did not react positively and remained under pressure on account of weak global cues. In fact the Indian equity market opened the trading session in red and protracted the fall. It was only around 2:30 p.m. that the Indian equity markets recovered from their day's lows and ended the trading session at 21,809.80 points, posting a gain of 35.19 points from the previous day's close aided by a smart recovery in the capital good index and gains in heavy weights stocks of the S&P BSE Sensex. However amongst the interest sensitive sectors, banks ended the day's trade in red, while auto reported gains. The overall breathe of the market was in positive.

Going forward, the Indian equity market is likely to keep watch on how the political landscape pans out ahead of 2014 general elections and would also take cognisance of other macroeconomic indicators both from domestic as well as global economy.

Impact on debt markets...
The Indian debt market however, wasn't enthused by the WPI inflation data for February 2014, as they read the core WPI inflation data, which came in at 3.02%. Thus as an impact, benchmark 10-year (2023) Government bond yield rose 3 basis points and were trading at 8.77% from previous close of 8.74% after the WPI data at the time of writing this note. The yield had earlier during the month fallen due to relatively stronger rupee and confidence exuded on the fiscal deficit target by the Government.

Going forward, the core WPI inflation data and the fiscal deficit number would provide guidance to debt markets.

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