India inflation rate soars above RBI target

An Indian security guard stands at the entrance of the Reserve Bank of India (RBI) head office in Mumbai on December 6, 2017. India's central bank held interest rates at a seven-year low on December 6, citing concerns over inflation and rising oil prices as a reason not to make a further cut. / AFP PHOTO / PUNIT PARANJPEShow less

India’s inflation surged past the central bank’s target, bolstering a view that interest rates may rise earlier than expected and offering little relief to battered bond markets.

Consumer prices rose 4.9 per cent in November from a year earlier as food and fuel costs surged, the statistics ministry said. That is the fastest pace in 15 months and exceeds all estimates in a Bloomberg survey, pushing the yield on the 10-year sovereign bond to the highest since July 2016 when markets reopened on Wednesday.

"Bond prices are suggesting a rate hike is almost a done deal," said Suyash Choudhary, a Mumbai-based head of fixed income at IDFC Asset Management in Mumbai. "How soon you expect a rate hike, that’s what you have to ask."

Economists at Rabobank forecast an increase as early as the second quarter of 2018 even as Mr Choudhary predicts a "prolonged pause". The view dashes lingering hope for easing from government advisers seeking to spur below-potential growth, and may come as a blow to the prime minister Narendra Modi whose party faces a close contest in elections in his home state on Thursday.

Investors will get an insight into the Reserve Bank of India’s (RBI) thinking when it publishes minutes of its latest meeting on December 20. By then, they’ll also have clarity on public opinion about Mr Modi’s policies, because state election results are due December 18.

Factory output rose 2.2 per cent on year in October, another set of data showed Tuesday, less than the 2.9 per cent survey estimate. The numbers highlight persisting signs of weakness, which the Bloomberg economist Abhishek Gupta said raises concern about "stagflation".

ICRA said India’s core inflation recorded a broad-based uptick to an eight-month high of 4.9 per cent in November, from 4.6 per cent in October. The yield on the 10-year sovereign bond rose 6 basis points to 7.25 per cent as of 9:09am in Mumbai, and the rupee fell 0.2 per cent to 64.51 a dollar.

RBI governor Urjit Patel left the benchmark repurchase rate at 6 per cent last week and reiterated commitment "to keeping headline inflation close to 4 per cent on a durable basis".

He’s betting that previous cuts and a US$32 billion recapitalisation plan for state-run banks will help jump-start lending, boost growth and possibly narrow a yawning output gap in 2018. That’s in line with forecasts from Goldman Sachs, which is calling for three rate increases by mid-2019 as growth and inflation picks up.

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Rabobank sees tightening that is steeper and faster. "The RBI will continue to raise rates until it reaches 7.25 per cent in the second quarter of 2019," said Hugo Erken, a senior economist at Rabobank in The Netherlands.

However, some economists such as Shubhada Rao at Yes Bank in Mumbai predict food costs will ease in the months ahead. The RBI is due to next review policy over February 6-7 and swap traders are pricing in a 48 per cent probability of an interest-rate increase with a 52 per cent chance of a hold.

"There is an upside risk to inflation from here on and that will be disappointing for bond markets," said Madhavi Arora, an economist at Kotak Mahindra Bank.

"For the RBI, we expect them to be relatively hawkish, but do not think they will hike rates just yet."