Core inflation may sway India to raise rate

Reserve Bank of India seen increasing repurchase rate by 25 bps

MUMBAI: Another interest rate hike is on the cards in India as the central bank tries to rein in inflation and shore up Asia’s weakest major currency.

The Reserve Bank of India will probably increase the repurchase rate by 25 basis points to a two-year high of 6.5% yesterday, according to 40 of the 53 economists in a Bloomberg survey, with the rest expecting no change.

A rate move will follow June’s surprise 25 basis-point hike, when the RBI tightened policy for the first time since 2014, following counterparts in Indonesia and the Philippines in stepping up action to counter an emerging-market rout triggered by higher US rates and a stronger dollar. The rupee is down nearly 7% against the dollar this year.

The RBI will announce its decision at 2:30 pm in Mumbai followed by a press conference 15 minutes later.

The following is what to watch out for in the statement.

Inflation has been accelerating sharply this year, reaching 5% in June, on the back of a weak rupee and higher oil, India’s biggest import item.

With the government offering higher prices to buy some crops from farmers, price pressures are expected to strengthen in the second half of the fiscal year.

The RBI – which in June projected inflation of 4.7% in the second half – has a mandate to keep it at the 4% midpoint of its target band in the medium term.

As the economy strengthens, there are signs that demand pressures are stoking inflation. Core-price growth – which strips out volatile food, fuel and light prices – has been sticky at a four-year high of more than 6%.

“Considering that demand-pull pressures on inflation are gaining traction, even as costpush pressures from higher oil prices remain elevated, and that growth recovery may now be gaining momentum on improving demand, another rate hike of 25 basis points, is our base case scenario,” said Gaurav Kapur, chief economist at IndusInd Bank Ltd in Mumbai.

Pipeline prices indicate inflation will remain under pressure.

Wholesale prices quickened to 5.77% in June, the highest since December 2013, while the RBI expects higher input prices to be passed on to consumers.

The government recently increased the minimum support prices for summer crops, which UBS Group AG estimates will boost the inflation rate between 35-70 basis points, depending on the procurement policy.

Added to that is the risk of a shortfall in monsoon rains, which could boost food costs further.

Traders are watching closely if the central bank shifts its stance to hawkish from neutral, a signal of more policy tightening in the months ahead.

That would hit bonds in a market where 10-year yields surged above 8% in June for the first time in three years.

It’s unclear how policy makers will vote this time around after June’s unanimous decision.

The spotlight will be on governor Urjit Patel, who heads the six-member monetary policy committee and has a casting vote. Viral Acharya, the deputy governor in charge of monetary policy, and Michael Patra, who heads the RBI’s research department, could vote for more tightening. — Bloomberg