RBI may step in to contain inflation rate

Indian inflation shot above 11 per cent in early June to a 13-year
high following a rise in state-set fuel prices, rattling markets and
prompting the finance minister to warn of stronger anti-inflation
measures ahead.

Inflation is on the rise globally and has also reached double digits
in other countries, including Indonesia, Vietnam, Sri Lanka and
Pakistan as oil, food and other commodity prices soar.

What experts say about inflation | Inflation rate surges to 13-yr high
at 11.05%

India government bond yields jumped to their highest in nearly seven
years after Friday's data and the finance minister's warning, while
shares fell to their lowest levels in 2008 on concern that interest
rates will move up.



Traders said the central bank, which raised rates just last week,
stepped in to support the weakening rupee after the release of India's
wholesale price index (WPI), the country's most widely watched
inflation measure.

The index showed annual inflation jumped to 11.05 per cent in the 12
months to June 7, its hottest pace since May 1995 and much higher than
forecasts for 9.82 per cent.

It also marked a big jump from 8.75 per cent in the week-earlier
data.

"The number is quite intimidating and it will require some response
from the fiscal authorities and the Reserve Bank of India," said
Abheek Barua, chief economist at HDFC Bank.

"So I wouldn't be surprised if there is another monetary measure on
its way in the next fortnight or so, and this is likely to be a repo
rate hike of about 25 basis points."

The double-digit inflation figure -- inflamed by a fuel price hike of
about 10 per cent early this month when India cut subsidies, will also
heap more pressure on a ruling coalition, which faces state and
national elections in coming months.

The coalition is already struggling to unify behind a controversial
nuclear energy deal with the United States.

The central bank surprised financial markets last week by raising
interest rates, its first increase in more than a year. It boosted its
repo rate by 25 basis points to 8 per cent.

Economists said with inflation running significantly higher than
anticipated, another increase was likely.

Reflecting such expectations, the benchmark 10-year government bond
yield jumped 10 basis points to 8.64 per cent, while the benchmark
stock index was down just over 3 per cent in mid-afternoon.

Political fallout

Political worries have already rattled markets this week, fuelling
losses on Wednesday and Thursday, while surging food bills have
contributed to a string of defeats for the ruling Congress party at
state elections over the last few months.

Now the coalition's communist allies have renewed threats to withdraw
support for the government over the nuclear deal. The government has
just a week or so to decide if it wants to risk early polls -- at
which rising prices will be a key battleground -- by going ahead with
the agreement.


Earlier this month, India joined a stable of Asian countries no longer
able to afford big fuel subsidies in the face of rising prices,
sparking street protests and calls for industrial strikes.

Where to next?

India's inflation rate was last this high in the week of May 6, 1995,
when it stood at 11.11 per cent. In the latest figures, inflation for
the week of April 12 was revised up to 7.95 per cent from 7.33 per
cent.

Energy costs account for 14.2 per cent of the WPI index and Friday's
data showed the index for fuel, power, light and lubricants rose 7.8
per cent in the week of the price rise.

Finance Minister Palaniappan Chidambaram promised action.



"This is indeed a very difficult time and we will have to take
stronger measures both on the demand side and monetary side," he told
reporters.

Food prices have been a source of concern for the Congress party-led
coalition as these impact the poor the hardest, but the food articles
index fell 1.1 per cent in the June 7 data.

Nonetheless, Indranil Pan, chief economist at Kotak Mahindra Bank,
said inflation could go towards 12 per cent. "The next 3 to 5 months
are going to be very crucial."

Robert Prior-Wandesforde, economist at HSBC in Singapore, saw both the
repo rate and the cash reserve ratio (CRR), used by the central bank
to drain surplus cash from the money market, rising by 50 and 75 basis
points respectively by year-end.