The sharp decline of the rupee in the last one month may complicate things further for the central bank, in terms of lowering interest rates, as concern of imported inflation is set to weigh on Reserve Bank of India (RBI)’s decision making.
With the country importing more than 80 per cent of its crude oil requirement, a weakening rupee will push up oil prices which will affect inflation.
The domestic currency, which is the worst performing in Asia since March, has lost 3.3 per cent beginning May. Since March, the rupee has lost seven per cent against the dollar.
On Thursday, rupee hit fresh intra-day low of 54.59 per dollar despite the intervention by the RBI.
According to dealers, public sector banks sold $200-300 million on behalf of the central bank, which pulled rupee from the day’s lows to close at 54.49, a paisa up against the previous day’s close. On Wednesday, rupee had posted a new historic low of 54.50 against the greenback.
“If the government chooses to pass on fuel prices, it may result in short-term spike in inflation, but over the long-term it will help RBI,” A Prasanna, economist, ICICI Securities Primary Dealership, said. “Rupee did not have much impact on core inflation in the last three months because probably slowing demand has played a role in keeping price rise contained. I do not expect further rate cuts till September. In the second half there could be 50 basis points reduction in rates.”
The country’s headline inflation measured by wholesale price index (WPI) increased to 7.2 per cent in April, which is higher than the previous month. WPI had eased to below seven per cent level in first three months of 2012 from 7.5 per cent in December. However, the silver lining was that the non-food manufacturing or core inflation was stable around five per cent, which indicated the rise in inflation was driven by supply-side factors for which monetary policy has a limited role to play.
Food inflation, which had fallen to -0.68 per cent in January on the back of favourable base effect, increased to 6.1 per cent in February, 9.9 per cent in March and 10.5 per cent in April 2012.
The central bank has reversed its policy stance in April by cutting the interest rates for the first time in three years to boost dwindling growth.
The country’s economic growth has fallen to 6.1 per cent in the quarter-ended December 2012 from 8.3 per cent a year ago and operating below its potential growth, which is pegged at seven per cent. However, RBI has maintained since then that further scope for a rate cut is limited.
Economists said the softening of crude prices has been neutralised by a sharp currency depreciation. Brent crude prices have fallen by 7.5 per cent since May, which was likely to have a favourable impact on inflation and inflationary expectations.
“The softening of crude oil prices in rupee terms is much less. We need to be watchful of the government’s decision on passing on the burden of fuel prices to the consumers. Looking at the current trend in inflation, RBI rate cuts are not expected to be front loaded,” said Siddhartha Sanyal, chief India economist at Barclays.
He expects a reduction of 100-125 basis points in policy rates (including the 50-basis point cut in April) during the course of the current financial year.
