Macroeconomic and Monetary Developments: Second Quarter Review 2009-10
-Released on October 26, 2009
The sharp decline in headline WPI inflation from its peak level of 12.9 per cent in August 2008 had created the space for adoption of growth-supportive accommodative monetary policy to mitigate the impact of the global crisis.
After remaining negative for 13 consecutive weeks, WPI inflation turned modestly positive in September 2009. Despite the low headline WPI inflation (year on year) at 1.2 per cent (as on October 10, 2009), inflationary pressures have started to emerge, which is evident from WPI showing 5.9 per cent increase over its March 2009 level and CPI inflation remaining stubbornly elevated at double digit levels.
The changing inflation environment, however, is being driven by strong escalation in prices of food articles, which have increased by 14.4 per cent (year-on-year) so far. Excluding food items, the WPI inflation remains negative at (-) 3.4 per cent.
From the stand point of monetary policy, anchoring inflation expectations in the face of sustained high inflation in essential commodities will be a key challenge.
Growth and Inflation Outlook
The current growth outlook for 2009-10 has both upside prospects as well as down side risks. Upside prospects to growth include the impact of the growth supportive fiscal-monetary policy stance, recovery in industrial production and core infrastructure sector, significant upturn in overall business confidence as per different surveys, strong recovery in the stock market with higher mobilisation of resources, return of capital inflows and improving outlook for the global economy which could boost the sluggish consumer and investor confidence.
The downside risks include the unexpectedly large deceleration in private consumption demand and some decline in corporate sales in the first quarter of 2009-10, the impact of deficient monsoon and recent flood in certain parts of the country on agricultural output and rural demand, sustained deceleration in credit growth and decline in exports.
The Reserve Bank’s professional forecasters survey points to downward revision to the growth outlook from 6.5 per cent to 6.0 per cent in 2009-10.
Inflation outlook is currently driven by the emerging signs of inflationary pressures, even though certain developments could neutralise the pressures. These include sluggish aggregate demand and negative output-gap, stabilisation of oil prices in last few months – notwithstanding the increase in October 2009, adequate buffer stocks of foodgrains and the prospects of a better rabi crop that could partly offset the adverse impact of deficient kharif, selective import of certain commodities and the normal trend reversal seen in prices of food articles over different crop seasons.
Emerging inflationary pressures may also persist and escalate further on account of the fading away of the base effect, cost push pressures through wage-price revisions in the face of elevated CPI inflation, challenges in improving the supply situation of essential commodities in the short-run, gradual pressure on global commodity prices along with global recovery, and rising inflation expectations on account of elevated CPI inflation.
The overall economic outlook is, therefore, a mixture of upside prospects of recovery and downside risks. Managing the trade-off between supporting growth and reining in inflation expectations poses a complex policy challenge.
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