WPI contraction doesn’t guarantee that RBI’s fight against inflation is over

Although the Reserve Bank of India (RBI) committee that sets interest rates targets retail inflation (the consumer price index, or CPI), economists still keep an eye on the WPI, especially when it enters deflationary territory. This is because manufactured products account for two-thirds of the total weight in the WPI.

All the three sub-indices of WPI – Mineral Oil, Food and Manufactured Products – saw significant decline in April. Inflation in manufactured products declined to its lowest level since October 2015.

Several factors have forced wholesale prices to reduce. Some of this has little to do with what policymakers are doing to reduce inflation.

First, the statistical factor: Last year’s high base (15.4%) on which the calculations were done has proved favourable, as was widely expected. The base effect was most helpful in the case of the mineral oil index.

Second, sharply declining global commodity prices are exerting pressure on fuel prices in the crude oil basket and through lower input costs for manufactured goods (2.4% contraction). Prices of basic metals, chemicals, textiles and manufactured food products also declined significantly in April. The sub-index also contracted (by 0.8%) in March.

Third, in the food basket, inflation decelerating in prices of milk, eggs, meat and fish and softening in vegetable prices offset higher inflation in foodgrains, especially pulses. Fall in international edible oil prices helped bring down inflation here.

The moderation in inflation in vegetable prices is seasonal and sensitive to vagaries of monsoon and heat waves. There was a sharp jump in the price index of fruits. In step with the international trend, paddy prices increased and wheat prices declined, though not significantly.

Will wholesale prices continue to fall?

International price trends and economic conditions will continue to be important determinants of inflation in the months ahead. High inflation last year made international prices difficult for policy makers. This year, global demand is expected to remain sluggish, with the wholesale price index expected to contract for a few more months due to a softening trend in commodity prices. Global oil prices have come down to $75 per bbl in May from around $83 per bbl in April. The higher base from last year will also support the downward pressure on inflation. Therefore, manufactured goods inflation is unlikely to flare up.

Food prices may still disturb expectations of benign wholesale price inflation. This is currently relatively unlikely to happen, despite concerns about rising wheat prices.

Going forward, the monsoon will be a big determinant, as foodgrain prices are still not coming down despite government measures last year – such as export restrictions – aimed at boosting supply. The prices of paddy and pulses may deteriorate. It is clear that apart from taking steps to reduce year-on-year market prices, the government will need to encourage farmers to increase production of pulses. It is not that such responses are missing, but more needs to be done on the supply side. (Restrictions on exports help reduce market prices for consumers but also discourage production by farmers by distorting market signals.)

The Monetary Policy Committee of the RBI is scheduled to meet from June 6 to 8, and is expected to take a closer look at the WPI data. The committee in its last meeting had kept the rates steady after increasing the repo rate by a cumulative 2.5 percentage points in the last 11 months. It is likely to remain in pause mode as CPI inflation also fell to an 18-month low of 4.7% in April from 5.7% in March. The deflation in WPI which is likely to persist in the coming months is unlikely to make any difference to this stagnation. RBI projections suggest that CPI inflation is expected to moderate in the first quarter of the fiscal, but pick up after June. So it is too early to declare the end of the fight against inflation.