Inflation continues to decline

Inflation at the retail level in India, measured by the CPI (consumer price index), declined to a 25 month low in December 2016 as prices rose just 3.4% year-on-year. One would have to look back to November 2014 in order to find a slower pace of inflation in recent years.

Food prices, measured by the CFPI (consumer food price index), which form 47.25% of the overall CPI, rose by just 1.4% in December and were the primary reason for the decelerating pace of inflation in India. The pace of CFPI was also the lowest in 25 months.

Impact on monetary policy

The RBI (Reserve Bank of India), the country’s central bank, has targeted to keep inflation below the 5% mark until March 2017. With inflation remaining below that target for the past four months and its pace declining for the past five months, the central bank has some room to cut interest rates. This cut will also help alleviate some pressure on the economy due to the demonetization which had significantly pulled down consumer spending.

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The central bank is scheduled to meet on February 8 to decide on the course of monetary policy, and may cut rates without worrying too much about a surge in inflation.

Overall assessment

We’ve looked at three economic indicators of India in this series: industrial production, trade balance, and inflation. A positive reading on all three indicators has given investors in India something to cheer about.

However, there are some factors which investors need to be wary of for 2017. One of them is the rise in crude oil prices. India is a net importer of the commodity and a rise in prices puts pressure on inflation. This may lead to the RBI being hesitant in cutting rates by a substantial amount.

Another is the impact of President-elect Donald Trump’s policies on India’s exports to the US as well as overall trade relations.

However, internal conditions in India remain robust enough to attract foreign investor interest (EPI). Though the impact of demonetization will reflect on industrial production and the overall economy for a few months, it is not expected to have a protracted impact on economic activity in the country.

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