Inflation hardens in Mar-21 as core inflation approaches 6%

Headline inflation for Mar-21 must be viewed in the context of the monetary policy caveat that dovish stance will be preferred as long as inflation does not consistently overshoot. The RBI has an outer limit of 6% inflation and if that limit is breached for 2-3 months in succession, it may be inclined to reverse the accommodative stance, to begin with.

Apr 12, 2021 07:04 IST India Infoline News Service

Like in Feb-21, the headline inflation estimates for Mar-21 were tad conservative. While the consensus inflation estimates of Reuters and Bloomberg converged at 5.4% for Mar-21, the actual headline inflation came in higher at 5.52%. For now, it appears the falling inflation trend between Oct-20 and Jan-21 has been reversed. Between Jan-21 and Mar-21, the headline CPI inflation has rallied 146 basis points, largely driven by food inflation and sticky core inflation.

Headline inflation for Mar-21 must be viewed in the context of the monetary policy caveat that dovish stance will be preferred as long as inflation does not consistently overshoot. The RBI has an outer limit of 6% inflation and if that limit is breached for 2-3 months in succession, it may be inclined to reverse the accommodative stance, to begin with.

Data Source: MOSPI

Urban versus rural inflation for Mar-21

For Mar-21, urban inflation contributed a much bigger share to the overall headline inflation as also to food inflation. For Mar-21, the 5.52% headline inflation was triggered by 6.52% urban inflation while rural inflation was just about 4.61%. If you focus on food inflation alone, total food inflation of 4.94% was driven by 6.64% urban inflation and just 3.94% rural inflation. Clearly, urban inflation is playing a much bigger role in overall inflation.

Why exactly is it so? The reason for this huge dichotomy is that food inflation has a 45% share in the overall CPI inflation basket. Hence, the supply chain constraints that afflicts food supply in urban areas has got translated into higher urban inflation. Another reason could be that the wealth effect has been prominent in urban areas so rural demand has been impacted significantly. The lower levels of rural inflation could be an indicator of weak demand, which is not exactly a good sign.

Core inflation inches closer to 6%

Before we come to core inflation, let us look at food inflation first. As we stated earlier, the food basket has a 45% weightage in the overall CPI basket and normally the headline inflation tends to move in tandem with food inflation. In the last 2 months between Jan-21 and Mar-21, the food inflation was up 300 bps to 4.94%. However, even at current levels, the food inflation is substantially lower than the median food inflation of last 12 months. Of course, supply chain continues to be a challenge.

Data Source: MOSPI / CEIC

The core sector inflation represents the secular residual inflation after the cyclical items like food and fuel are removed. Even the latest Economic Survey presented prior to the Union Budget 2021 identified core inflation as the real albatross round the neck for monetary policy authorities. Over the last 1 year, the core inflation has moved up from 3.95% to 5.96% and it is almost inching towards 6% mark. This is the highest level of core inflation seen in the last 29 months and it is difficult for the RBI to rein in inflation unless it brings down this sticky core inflation to below the 4% mark.

Did food become more expensive in Mar-21?

Food prices are up 300 bps in the last 2 months and that has a major bearing on overall inflation as the food basket has a significant 45.8% weight in the CPI basket. Here is a look at what exactly drove food inflation in Mar-21.
  • Meat and fish inflation in Mar-21 bounced sharply to 15.09% as compared to 11.34% in Feb-21. Egg Inflation tapered further but remains high in absolute terms at 10.60% in Mar-21, considering its role as a cheap source of protein.
  • Fruit inflation also picked up further in Mar-21 to 7.86% from 6.28% on a sequential basis. Vegetable inflation remains in negative but has picked up steam to -4.83%. The vegetable inflation stood at (-10.41%) in Dec-20, (-15.84%) in Jan-21 and (-6.27%) in Feb-21. Clearly, despite prices falling, vegetable inflation is picking up steam.
  • Pulses inflation picked up once again to 13.25% in Mar-21. It stood at 12.54% in Feb-21 and 13.39% in Jan-21. Cereals inflation dipped further into negative at -0.69% in Mar-21 compared to -0.35% in Feb-21. Sugar stayed in the negative at -0.53% for Mar-21.
  • The food basket has a weight of 45.86% in the CPI basket. Within the food basket, cereals, milk, vegetable and snacks make up 61%. Vegetable and milk prices have been specifically responsible for higher food inflation while cereals kept inflation in check.
Remember, RBI has given an inflation warning

The fine print of the April monetary policy has underlined the inflation risk. If you look at the way headline inflation has bounced back from 4.06% to 5.52% in the last 2 months, it is quite clear that inflation remains the biggest risk to bond yields and also to the RBI stance on monetary policy. For now, growth  may still be the overriding theme of the RBI, but if inflation remains sticky, then the RBI may not hesitate to turn hawkish!

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