Overview

India’s CPI and WPI inflation continued to moderate in Dec-22 with a print of 5.72% YoY (12-month low) and 4.95% YoY (22-month low) respectively. More importantly:

• From their respective monthly peaks in FY23, headline CPI and WPI inflation are now lower by 208 bps and 1167 bps respectively.

• After remaining above the policy target band of 2-6% for ten months earlier in the year, CPI inflation printed within the policy target band of 2-6% for second month in a row.

Key highlights of CPI inflation

• On sequential basis, CPI fell by 0.45% MoM in Dec-22, the steepest decline in 23-months – although it is broadly in line with the series average of 0.39%, seen in the month of December.

• Aided by supportive winter seasonality, Food and Beverages index fell by 1.35% MoM in Dec-22, marking its second decline in last 9-months. The downside was predominantly led by Vegetables (-12.7% MoM) and Fruits (-1.7% MoM).

• Clearly, the respite on food inflation was driven by perishables, which appear to have benefitted from fresh mandi arrivals. However, price pressure in other parts of the food basket, namely cereals and spices continue to persist. In addition, milk prices continue to march ahead at a somewhat elevated pace. We note that the lagged spillover impact of elevated agri input prices could keep food inflation pressures on the table. However, with PMGKY being discontinued from Jan-23 and rabi sowing progressing at a healthy pace (up 6.4% as of Dec 22), upside risk to food inflation could get neutralized.

• Consolidated fuel prices rose by 0.35% MoM, with bulk of the increase coming from hike in kerosene prices along with hardening of coke, charcoal, and dung cake prices.

• Sequential momentum in core inflation (CPI ex indices of Food & Beverages, Fuel & Light, and petrol and diesel items within Miscellaneous) moderated to 0.34% MoM in Dec-22 from 0.40% in Nov-22 with incremental price pressures seen in case of services like Health (0.72% MoM) and Personal Care (1.27% MoM). The annualized rate of inflation under this category remained unchanged at 6.3% in Dec-22.

Key highlights of WPI inflation

• Sequentially, WPI fell by 1.12% MoM, recording its largest monthly fall in 31-months.

• The incremental decline in Dec-22 was led predominantly on account of non-core factors, viz., food and fuel. Consolidated food & beverages index fell by 2.26% MoM – its largest downward movement in 24-months. In comparison, consolidated fuel index declined by 2.60% MoM – a 4-month low.

• In contrast, core WPI (WPI ex indices of Primary: Food, Mfg: Food, Mfg: Beverages, Fuel & Power, and Primary: Crude Petroleum & Natural Gas) remained unchanged in Dec-22 after falling for three previous months. Nevertheless, annualized core inflation eased on account of favorable statistical base to a 26-month low of 3.15% in Dec-22 from 3.76% in Nov-22.

Outlook
Moderation in both headline CPI and WPI inflation in Dec-22 was accompanied by a sharp sequential fall in overall prices. Noticeably, the decline was primarily on account of non-core factors, viz. food and fuel.

• Sharp easing of food inflation is comforting amidst kicking in of favorable winter seasonality (with arrival of kharif produce) at both wholesale and retail levels. Juxtaposed with the ongoing decline in global food prices and pick-up in domestic rabi sowing, one is hopeful of a relatively benign scenario in the near-term on food inflation.
  

• Although fuel inflation inched up in case of CPI inflation, it eased in case of WPI inflation with pass-through of lower international commodity prices. In contrast, retail price of petrol and diesel remained broadly unchanged.

Having said so, the divergence in core inflation at retail and wholesale level continues to persist, and in fact widened in Dec-22. Although Core WPI inflation continued its descent, Core CPI inflation has remained fixated above 6%. The divergence between them manifests (i) relatively strong linkage of Core WPI basket to international commodity prices, and (ii) dominance of services (non-tradables) in Core CPI basket. While the former has been on a correction path since mid-2022, pick-up in services activity and increased domestic demand has enabled a higher and a faster reset in prices.

Stickiness in core retail inflation at elevated levels has been a cause of concern for the MPC of the RBI. As such, this would continue to prompt incremental rate tightening from the central bank. 

However, there is also silver lining. Sharp deceleration in WPI inflation will ease input price pressures in the coming months. Juxtaposed this with the expectation of moderation in domestic growth impulses, and the case for a downward trajectory in CPI inflation becomes reasonably strong. In fact, post two successive months of downside surprise in CPI inflation, we now mark lower our FY23 CPI inflation estimate to 6.5% from 6.7% earlier. Going forward, CPI inflation is widely expected to moderate towards 5.0-5.5% range in FY24.

From monetary policy perspective, this would imply limited room for incremental hikes. As such in our base scenario, we continue to expect the RBI to opt for a pause after announcing a 25 bps rate hike in Feb-23 policy review. However, the likelihood of a pause in Feb-23 has slightly increased after the release of the latest inflation data. 

Table 1: Key highlights of CPI inflation

Chart 1: Sharp deceleration in core WPI to have a partial lagged impact on core CPI