From the peak of 16.63% in April 2022, WPI inflation has fallen 1278 basis points to 3.85% in just 9 months. Each month has been progressively lower. The impact of the rate hike of 250 bps has been evident on WPI inflation; not so much on CPI inflation. Against the 1278 bps fall in WPI inflation, retail inflation is down just 135 basis points from the peak. Retail inflation typically reacts with a lag, to shifts in interest rates while WPI is normally the lead indicator. 

Data Source: Office of the Economic Advisor (peak levels are shaded)

WPI inflation has generally been more sensitive and hence the impact of any rate hike is immediately visible in WPI inflation. The impact eventually gets transmitted to CPI inflation with a certain time lag, through the impact on consumer spending. 

WPI inflation trend in last 3 months

Overall WPI inflation is divided into primary articles (mining and crops), manufactured products and fuel & power. Manufactured products have the highest weightage of 64.23% in the WPI basket followed by primary articles at 22.62% and fuel & power at 13.15%. The sharp fall in manufacturing inflation has been a key driver for lower WPI inflation. Food basket has a weight of 24.38%, but this is partly carved out of primary articles (food crops) and partially manufactured products (food products).

Data Source: Office of the Economic Advisor

The WPI inflation at 3.85% in February 2023 is the lowest level of WPI inflation seen in the last 25 months; and largely a reaction to persistent RBI rate hikes. One key risk to WPI inflation is that higher cost of funds has imposed a steeper financial cost on companies. This could impact cost of funding for Indian companies and impact their solvency. The sharp fall in WPI inflation has been progressively driven by manufacturing inflation and fuel inflation. Otherwise, food inflation is higher compared to December 2022.

Which products moved WPI inflation in February 2023?

The sharp fall in WPI inflation was across manufactured products and fuel; but WPI inflation of food products and primary articles are higher compared to December 2022. Manufacturing inflation fell from 3.37% in December 2022 to 2.99% in January 2023 and 1.94% in February 2023. With a weightage of 64.2% in WPI basket, manufacturing had an oversized impact in pulling down WPI inflation. Energy inflation tapered amidst a global commodity correction to 14.82%, but food inflation is showing the pressure on the Rabi crop due to a prolonged heat wave across India. 

Data Source: Office of the Economic Advisor

In terms of specific products, highest producer inflation in February 2023 was in HSD at 24.61% followed by Wheat at 18.54%, Petrol at 15.24%, Natural Gas at 14.47%, cereals 13.95%, Milk at 10.33% and Paddy at 8.60%. Let us now turn to the negative triggers for WPI inflation in February 2023. For instance, Onions at -40.14%, Vegetables at -21.53%, Potatoes at -14.3%, Vegetable Oils at -13.99% and Minerals at -10.62% kept WPI inflation in check. 

What does the high frequency WPI inflation tell us?

While WPI inflation is generally presented YOY, the DIPP also presents high frequency MOM picture; like the Bureau of Labour Statistics (BLS) in the US does. High frequency data provides critical insights on short term momentum of the inflation number. In a volatile macro environment, the very short term headwinds and tailwinds are best captured by the MOM data on WPI inflation. Here are some of the principal takeaways.

• For February 2023, MOM WPI inflation expanded by 20 bps. In 3 out of last 6 months, the MOM WPI inflation has been negative. This could indicate WPI inflation close to bottoming out.
  
   
• Is there MOM pressure right now? For February 2023, sequential WPI inflation is 1.93% higher for fuel & power, while primary articles are down -0.57% MOM and manufactured products up 0.21% MOM. It is about the low base effect in January 2023.

MOM numbers are a kind of 2-way street. They capture short-term trends better but they also tend to be vulnerable to short term base effects. However, it is a good measure to ratify the yoy WPI inflation trend and capture any short trends in the data.

RBI will be watching the Fed closely in its March meet

Will RBI rely more on WPI inflation than on CPI inflation and shift its monetary stance? That looks unlikely, if you go by the language of the RBI in the February policy meet and the minutes of the MPC. RBI had underlined in the minutes that it would still prefer to focus on controlling inflation rather than managing growth triggers. RBI will prefer to see CPI inflation coming closer to 4% before envisaging any change in stance. CPI inflation has now stayed above the 6% outer tolerance limit for the second month in a row in February 2023.

Over the last 2 MPC meetings, two members viz. Jayanth Varma and Ashima Goyal have openly called for a pause on rate hikes and a shift in focus to growth. In February 2023 MPC meet, they voted against the rate hike and against the withdrawal of the accommodative policy approach. However, now the SVB Financial crisis could be the joker in the pack. Here is what RBI may focus on.

• In the March 2023 quarter, cost of funding is already up 101 bps compared to the Dec-22 quarter. That is not good news. RBI clearly would be aware that unless that pressure is reduced, the benefits of higher NIMs for banks cannot last for too long.
  
   
• RBI may be inclined to focus more on core CPI inflation, which remains sticky at 6.1%. RBI is now looking at bringing down the core inflation to more manageable levels, before attempting any shift in stance.
  
   
• One factor that may impact the April stance of the RBI is how the Fed responds to the SVB Financial crisis when it meets on 22nd March. Till the SVB Financial crisis broke out, the debate in the Fed was between 25 bps and 50 bps. With the SVB Financial being, partially, a victim of hawkish Fed policy, the Fed may do a rethink in its March meet. That will also influence how the RBI reacts to inflation and to the financial sector crisis.

The RBI has a tightrope to contend. It is caught in a dilemma between falling wholesale inflation, sticky consumer inflation and growth hitting a wall of worry. In between, the SVB Financial crisis and its spill over effect on India added a new dimension. The April 2023 policy of the RBI could set the tone for the year.