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Growth and Inflation – Highs Spell Danger?

First, a quick note to Thank you all for the great feedback on my last post. Fantastic comments – all of them, and gives me a lot to think about and write about. I’ve just been through a quick trip to Jaipur with family and it turns out things get a lot clearer in your had when you get some rest. Obvious, I know, but sometimes I miss the forest for the trees.

Two interesting macro-developments in the last week: Food Inflation and Bank Credit Growth.

Food Inflation – one of the figures that are actually revealed every week – shot up to 17.47% last week, raising fears that prices have gone too high. In a way, they have – dals are now higher than 100 rupees per kg, tomatoes are Rs. 50 per kg. etc. – evidence that I can gather. For me, it’s not a huge direct impact: prices of non-veg haven’t gone up that much, and fruits and veggies form less than 10% of our monthly budget. It must hurt tremendously, though, for those where the percentage is much larger.

The question is: Is it temporary, or are we seeing a dramatic increase in prices? The bad monsoon means a horrendous crop, the results of which will be higher prices; both from lack of supply and intermediate hoarding. Temporary is good – a solid winter crop will mean the imbalance will ease, and the hoarders will trip on themselves when selling and bring prices down. This cycle could take months, though; inflation, till then, will keep showing an uptick.

Was the base low last time? Not really – inflation last year same time was around 8.4% – fuel prices were cut only on December 5, 2008.

Another data point to look at is the bank credit growth stats. After going to single digits (9.6%) last month, we’ve gone back up to 10.1% as of November 20. The reason could be a small seasonal blip, or the impact of a slowing 2008 (Nov/Dec 08 wasn’t quite great for growth). But it’s apparent that the figures in reverse repo have come down from 1.3 trillion (lakh crore) rupees to about 1 trillion, so the remaining money could be going into the regular economy. It’s not significant – the RBI might only start worrying after 20% growth – but it could be a sign.

Both these figures – an increasing bank credit growth number and high inflation – prompt people to think that the RBI will attempt to rein in prices by rate increases. The monetary transmission in India – meaning, the funda of increasing interest rates and it’s bringing down inflation – is terribly flawed, so there’s very little hope of it working in the short term. But it throws a sign – that we’re moving from crisis management to controlling growth.

Either ways, I don’t know what to think of the 7.9% GDP growth figure. It’s partially derived from stimulus and we’re still producing like crazy. But are we consuming, and will the story die a quick death once the RBI raises rates or attempts to curb prices?

The 10 year bond has moved to a yield of 7.47% – from an low of 7.18% – in a few days, anticipating that the RBI will take monetary action. With rates at 4.75% I can easily imagine a 0.25% rate hike. That still shouldn’t impact the 10 year bond much, even if it happens; but again it’s not what they do, but what they are expected to do in the future that counts. 0.25% may not be much; but markets will overreact and start imagining 3% hikes in the next few months. Bond investors are going to be in a soup, I think.

Stocks to watch – Banks, real estate, tea/coffee and agri products. And if it gets bad, watch Auto.

  • Loony says:

    >Deepak,
    Can you please elaborate on the stimulus provided? Is it the lower interest rates stimulus or something else?
    Also can you elaborate on how inflation can be curbed?

    Thanks.

  • Anonymous says:

    >Market would obviously react to any rate hikes in irrational way. Everybody knew that this market(anyhow global markets) is running due to steriod called liquidity. Rate hike could provoke these actions and markets would act in an irrational manner. Indian Government traditionally doesn't seems to favour Middle Class people who suffer more because of raise in prices of food products. For Lower class people there are always useless program viz.,NREGA, Re.1Rice for 1Kg and everything to keep them lazy and create inflation in wages. I bet we'd suffer for these crimes. May be couple of years from now or some time in future.

  • Sarajit Datta Oye says:

    >Deepak,

    I have started 2 sites –
    http://www.SDOye.com – Mutual Fund Guide
    http://www.SDOye.blogspot.com – Personal Finance

    On you blog you have links for mutual fund sites and personal finance sites. Will it be ok to add my above 2 sites also in your blog list of mutual fund sites and personal finance sites?

    Cheers
    Sarajit Datta