The RBI Insists Inflation Is Transitory. Is It?

With a continuing broad-based rise across items, can inflation still be called transitory?

<div class="paragraphs"><p>A hand-written bill at a grocery store, known as a kirana, in Bengaluru, India, on Monday, Jun. 21, 2021. (Photographer: Dhiraj Singh/Bloomberg)</p></div>
A hand-written bill at a grocery store, known as a kirana, in Bengaluru, India, on Monday, Jun. 21, 2021. (Photographer: Dhiraj Singh/Bloomberg)

Retail inflation rose by 6.26% in it's latest print for June 2021.

That’s both good and bad news.

CPI inflation declined by four basis points in June after rising to 6.3% in May — the highest in 2021. But, it continued to remain above the Monetary Policy Committee's target of 4(+/-2)% for the second straight month. This was after it already spent 10 of the 12 months in 2020 outside the target band.

In June, despite the marginal downtick in inflation, three of the six major components of the inflation basket remained above the upper band of 6%. While fuel and light inflation saw a spike in April, May and June, the group comprising miscellaneous items has remained at over 6% through the year. Clothing and footwear inflation rose for the third straight month to exceed the upper band in June. Food and beverage inflation rose for the third straight month and is now within striking distance of the upper band.

Inflation in pan, tobacco and intoxicants saw a sharp dip in June after recording double-digit inflation for all the previous months in the year. Housing remained the only group to record consistently low inflation through the year. Health inflation eased but remained elevated.

According to the RBI, high rates of inflation is transitory. "Inflation is showing signs of stickiness, but it is only a transitory hump that should moderate in the third quarter," RBI Governor Shaktikanta Das said in an interview to the Business Standard last week. As such, the monetary policy committee is more inclined to look through the perk-up in prices, as growth is the main challenge for now, Das added.

Economists are less sure.

The June CPI print will help RBI to maintain the "transitory hump" narrative for now, and accommodative monetary stance in August, but time has come for the MPC to start according a higher weight to inflation risks for informing their future course of action beyond August, said Kaushik Das, chief economist at Deutsche Bank.

The slightly lower-than-anticipated June CPI print will provide some relief that things have not worsened further, but it will not change the narrative of a range shift in CPI inflation that has occurred with the sticker shock in May.
Kaushik Das, chief economist, Deutsche Bank.

The inflation for June 2021 at 6.26% was once again over a fairly high base of 6.23% in June 2020 and points to the build up of price pressures in the domestic economy, said a research note by CARE ratings on Monday. To be sure, despite a broad-based rise in groups across CPI, there was a moderation in the rate of growth in prices on a month-on-month.

Still, core inflation remained at elevated levels close to 6% during the month, increasing on a month-on-month basis pointing towards the build up in price pressures in the domestic economy, according to the note by Madan Sabnavis and Kavita Chacko, economists at CARE Ratings.

Revision Imminent?

CPI inflation rose by 5.5% in the April-June 2021 quarter, compared to the central bank’s estimate of 5.2%. As such, economists expect a revision in forecast in the upcoming policy meet scheduled for early-August.

The RBI will have to increase its FY22 CPI inflation forecast higher from the current 5.1%, to adjust for the range shift that has occurred to CPI, said CARE Ratings. "Going ahead we expect inflation to be around 6% for the next couple of months," it added.

As such, the ratings agency now forecasts CPI inflation to average about 5.6% in FY22, with July-September 2021 average inflation at 5.8% compared to the RBI forecast of 5.4%. Core CPI inflation is likely to average close to 6% in FY22 compared to 5.3% in FY21, according to its estimates.

However, this may yet not have a bearing on MPC at least at its next meet, as there is a commitment to focus more on growth, CARE Ratings said.

Despite the revision, inflation is still on a downward glide path when compared to average inflation of 6.2% in FY21, said Sameer Narang, chief economist at the Bank of Baroda. But, risks remain to the upside, he said.

Food inflation continues to remain high, the southwest monsoon has gone into a lull and international oil prices continue to rise, said Narang.

The RBI expects inflation to taper simply because of the base effect, said Sunil Kumar Sinha, principal economist at India Ratings & Research. Ideally, inflation should be close to 4%. Even if it does not come back to that and is instead between 5-5.5%. within the RBI's target band, it still helps the central bank manage it's monetary policy stance, said Sinha.