Defying expectations of a let-up on base effects, March inflation rose 6.95 percent YoY, highest since 4Q20 and up from 6.1 percent in February. The heavy-weight food segment surged 7.5 percent YoY vs 5.9 percent in February, punching above its weight and making up 80 percent of the headline rise.
Inclement weather and global commodity upmove drove prices of perishables (vegetables) higher, besides edible oils.
A freeze in retail petrol/ diesel prices for much of March prevented a sharper rise in the headline.
Bunched up the impact of the incremental increase in pump/ LPG prices, adjustment in natural gas and other variants is yet to filter through the headline, which will keep Apr-May near the upper end of the target range, also fuelled by rising production costs and further climb in global food prices.
Core CPI inflation (ex food and fuel) ticked up to 6.3 percent from Feb’s 6 percent, firmest in nearly a year.
Cognizant of this risk, the central bank had revised up its FY23 inflation forecast by 120 bps to 5.7 percent last week and we foresee slight upside risk to the official June '22 quarter forecast of 6.3 percent contingent on international crude movements.
If our forecast holds up, inflation is at the risk of breaching the upper end of the 2-6 percent target for three consecutive quarters i.e., CY1Q to 3Q22, testing the policymakers’ legislative mandate.
Friday’s hawkish surprise from the central bank led the 10Y INR (generic) bond yield to jump >25bp, past 7.15 percent to three-year high along with an uptick in 2Y and money market rates.
Besides an extension and increase in the held-to-maturity requirement for banks that will potentially draw additional demand for bonds, markets still await clear signals on the shape and form of the central bank’s support.
March’s inflation print validated the RBI MPC’s hawkish pivot and might nudge markets to build in an earlier start of the rate hiking cycle. Assuming a 12-month ahead inflation average of 5.5-5.7 percent benchmark rate will need to be raised by 150 bps to reach the terminal level and take real rate at least back to neutral from negative currently, posing upside risks to our base case policy path.
For these reasons, further upmove in 10Y yields and short-end rates are on the cards, just as sizeable weekly debt auctions also get underway.
(Radhika Rao is Senior Economist, DBS Group Research. Views are personal)
