Figure 1: India CPI Inflation (% change, y/y)

After trending above the 6% upper target range for 10 consecutive months in 2022, headline inflation had returned to within range levels in November. However, the trend was reversed again last month as food prices soared. Persisting with its hawkish bent, the Reserve Bank of India (RBI) had raised its benchmark policy rate in its January MPC by 25bps to 6.5%. However, the central bank was of the view that price pressures had already begun to ease and were likely to moderate further by mid-2023. The expectations of above 6% y/y inflation in January and February will stoke worry for the RBI now. With the INR’s volatility continuing, imported inflation also remains a concern and will contribute towards elevated headline inflation. Further, it appears from the RBI’s minutes that core inflation remains elevated, and this is likely to eat into the public’s disposable income and threaten demand. Declining output of consumer durables (consumer durables output contracted by 7.5% y/y in January) is indicative of consumer spending turning cautious. 

Risks to India’s inflation remain high in the near term. This includes supply shocks, global commodity price surge, China re-opening and the seasonal nature of food prices. Additionally, the risk of a lower-than-expected harvest owing to climate change concerns affecting food prices cannot be ruled out. This is particularly heightened now that there is an increased expectation of the El Nino this year, and the early arrival of summer in Northern India. Following these dynamics, we expect inflation to moderate only slightly to 6.3% y/y in February, but remain above the 6% upper target range, increasing the risk of the RBI hiking its interest rate further. One additional rate hike of 25bps in April cannot be ruled out.