Decline in Covid Cases Likely to Increase Commodity Prices

WPI inflation eased to 3-month low of 11.2 per cent in July 2021 from 12.1 per cent in June 2021, led by lower food (4.5 per cent in July 2021 from 6.7 per cent in June 2021) and fuel inflation (26 per cent in July 2021 from 32.8 per cent in June 2021). The decline in food inflation was quite broad-based. On the other hand, core inflation inched up. Pass-through of higher commodity prices to consumers is yet not complete. We expect CPI inflation at 5.5 per cent in FY22. RBI is likely to reverse monetary policy from Q4FY22 with an eventual repo rate hike in early FY23.

Food inflation cools off: Food inflation eased to a 5-month low of 4.5 per cent in July 2021 from 6.7 per cent in June 2021 led by a sharp drop in perishables. The fruits and vegetable index fell by 6.7 per cent in July 2021 compared with an increase of 2 per cent in June 2021. Within this, prices of potatoes (declined by 36.4 per cent from 31 per cent in June 2021) and tomatoes (dropped by 42.5 per cent from 16.3 per cent in June 2021) dropped the most. Even pulses inflation eased a bit to 8.3 per cent in July 2021 from 11.5 per cent in June 2021. Egg inflation too moderated to a 4-month low of 22.8 per cent in July 2021 from 29.7 per cent in June 2021. Cereal prices remained muted (declining by 2.8 per cent in July 2021. However, onion prices accelerated in July 2021 (72 per cent from 64.3 per cent in June 2021). So was the case with oilseeds. The broad-based decline in food inflation is a welcome change and bodes well for the inflation outlook in the coming months.

Fuel and power inflation drops: Fuel and power inflation eased to 32.8 per cent in June 2021 from 37.6 per cent in May 2021. Base effect played a role in this. The mineral oil index cooled off from 81.2 per cent in May 2021 to 61.8 per cent in June 2021. This is in line with trends in international oil prices. After reporting an increase of 111 per cent in May 2021, oil prices were up by 80 per cent in June 2021. The dip in mineral oil inflation was led by ATF (84 per cent in June 2021 versus 234 per cent in May 2021), Naphtha (87 per cent versus 241 per cent), Furnace oil (71 per cent versus 141 per cent), and LPG (31 per cent versus 61 per cent). The electricity index saw a 10 per cent increase versus 5.8 per cent in May 2021. We expect fuel inflation to come down in the coming months on the back of base effect and steady international oil prices.

Core inflation inches up: Core inflation rose to 10.8 per cent in July 2021 from 10.4 per cent in June 2021. Manufactured products inflation also picked up to 11.2 per cent from 10.9 per cent in June 2021. Of the 22 commodity indices, as many as 14 indices rose at a faster pace in July 2021 than June 2021 led by tobacco, fabricated metal products, textiles, non-metallic mineral products and machinery equipment. In August 2021 (MTD), international commodity prices were up by only 0.4 per cent (MoM) compared with the 1.1 per cent rise seen in July 2021. Rising cases of Covid-19 have brought some stability to international commodity prices. However, the virus seems to be following an ebb and flow pattern. A decline in cases may drive commodity prices up again. In addition, higher commodity prices have not been passed on to consumers entirely as of now. This pass-through is likely to play out in the coming months and quarters.

[Inputs from Bank of Baroda]