Inflation skyrockets to 13-yr peak of 11.05%

The inflation continued to accelerate unabated to a 13-year peak of 11.05% for the week ended Jun. 7, 2008, from the previous week`s 8.75%, propelled by a momentous increase in the prices of fuel, power, lubricants and ATF.

The wholesale price index for `All Commodities` for the week ended Jun. 7, 2008 rose by 1.8% to 235.2 (Provisional) from last week`s 231.1 (Provisional). The index for primary articles declined by 0.4% to 242.5 (Provisional) as food articles` prices fell by 1.1% to 231.6 (Provisional) led by fruits & vegetables, bajra and barley, which declined by 6%, 2% and 1%, respectively. On the other hand, fish-marine grew dearer by 4% and condiments & spices, maize, gram by 1% each.

The index for non-food articles group rose by 1.4% to 239.2 (Provisional) from 235.8 (Provisional) for the previous week fueled by higher prices of niger seed (13%), raw cotton and rape & mustard seed (4% each), raw jute and gingelly seed (2% each) and groundnut seed, copra, cotton seed and castor seed (1% each).

The most significant change was witnessed in the fuel, power, light & lubricants index, which rose by 7.8% to 374.2 (Provisional) due to higher prices of light diesel oil (21%), liquefied petroleum gas (20%), naphtha (17%), furnace oil (15%), aviation turbine fuel (14%), petrol (11%), high speed diesel oil (10%) and bitumen (7%).

Index for manufactured goods also climbed 0.3% to 201.6 (Provisional), similar to the index of food products, which rose by 0.3% to 207.4 (Provisional) paced by rising prices of edible oils.

At the same time, the index for basic metals, alloys & metal products group rose by 1.1% to 295.8 (Provisional) fueled by higher prices of other iron steel (14%), basic pig iron and foundary pig iron (11% each), ms bars & rounds (9%), steel sheets, plates & strips (4%) and pipes & tubes (2%).

Global investment banking and securities firm Goldman Sachs expects further monetary tightening to combat the surging prices. It is expected that inflation will continue to trend higher, though not at the same rate as the fuel adjustment was a one-time move. However, continued double-digit inflation is likely to have a huge psychological impact on consumers, further fuelling inflationary expectations. Due to the social implications, the issue can also transform into a major political crisis.

However, the Reserve Bank of India (RBI) has been behind the curve for not having increased the benchmark repo rate in April and waiting till June for the first hike. Significant further tightening is required to arrest inflationary expectations, second-round effects and demand pressures. The RBI might hike another 100 bp through a combination of raising the repo rate and the cash reserve ratio over the next 3 months, with risks towards more tightening.

Given the negative sentiments of high inflation hurting foreign inflows and elevated global oil prices, the Indian rupee is likely to weaken further. Goldman Sachs` 3, 6 and 12-month USD/Rs forecasts remains at 43.9, 44.1 and 42.2 respectively