Headline inflation is down with CPI (Consumer Price Index) inflation at levels of 5% from over 9.5% levels seen a couple of years ago and WPI (Wholesale Price Index) inflation at negative levels for the last ten months. Falling inflation expectations has enabled RBI to cut the repo rate by 125bps since January 2015.
Ideally, the impact of falling inflation and falling interest rates should be felt at both the corporate and household level. Corporates cost of borrowing should reduce even as input costs fall while household cost of goods and services should fall even as cost of loans and mortgages fall.
Unfortunately due to many structural issues, both corporates and households are yet to see the benefit of lower inflation and lower interest rates. At the corporate level, borrowing costs are still high despite yields on government bonds and corporate bonds falling by over 100bps over the last one year. This is because most of the corporates in India especially the mid sized corporates do not access the corporate bond market due to various inefficiencies in the market. Corporates are still dependent on bank borrowing and banks are unable to lower lending rates given the continuous rise in bad loans, which has grown at a CAGR of over 25% over the last five years.
Input costs other than cost of raw materials have not really gone down. Cost of electricity is still high as the State Electricity Boards (SEB) are resorting to hiking commercial tariffs to negate the cost of subsidies at the retail level. SEB’s are bleeding due to losses incurred on subsidies and banks are unwilling to lend to them and producers are unwilling to supply power to them. Losses of SEB’s are at levels of Rs 3000 billion and climbing.
Wage costs too have not come off, as household level inflation is still high. Households are faced with rising cost of power given SEB losses, high rental costs given that real estate prices have not come off despite a so called slump in real estate, high cost of loans and mortgages given banks NPA’s.
Fuel costs too have not come off despite global crude oil prices down over 50% over the last one year and that is due to the fact that the government has allowed Oil Marketing Companies to fully pass on the cost of fuel to the consumers. Government’s subsidy bill has come off, which is positive in the longer term as lower fiscal deficit will keep down inflation as well as interest rates in the economy.
Cost of education is rising for households and will continue to rise given that pay levels of faculty have not fully kept pace with inflation. Quality education will only cost more every year as demand increases with no corresponding increase in supply. Health care too has a big demand supply gap leading to rising costs for households.
India has to see a correction in structural issues and until then the Real Economy will not really feel the impact of low headline inflation and interest rates.
Economic Data Analysis
IIP (Index of Industrial Production) growth for September 2015 was at 3.5% as against 6.4% growth seen in August and against a growth of 2.6% seen last year. Manufacturing growth was 2.6% against a growth of 6.9% last month and 2.7% last year. Capital goods growth was 10.5% against growth of 21.8% last month and against 12.3% last year while consumer durables growth was 8.4% against 17% growth last month and against negative 11.1% last year. In the April-September 2015 period, IIP growth was 3.6% against 2.6% last year, manufacturing growth was 4.2% against 2.2%, capital goods growth was 7.9% against 6% and consumer durables growth was 7.6% against negative 12.5%.
IIP growth is still in low single digits and unless this picks up, economy is unlikely to grow at a faster pace.
Vehicle sales are rising with passenger cars and commercial vehicles growing by 11.5% and 8% year on year in the April-October 2015 period. Demand is definitely better than what it was earlier and could pick up if rate cuts improve consumer demand.
Bank credit growth has not picked up. Bank credit grew by 8.96% year on year as of October 2015 and has shown below 10% growth since March 2015. Banks are hurt by high NPA levels with NPA plus restructured assets at over 10% of gross advances as of March 2015 and has deteriorated in the first six months of this year as indicated by high provisions banks are making in their quarterly results.
CPI inflation for October 2015 printed at 5% against 5.52% levels seen in October 2014. Food inflation was 5.25% against 5.5%. Core inflation was at 4.6% from over 5% levels seen last year. RBI has forecast inflation at well below 6% levels as of March 2016 and has a target of 5% as of January 2017.
Trade data shows that exports fell 17.5% in October 2015 on a year on year basis while imports fell 21%% and trade deficit fell 28%. Exports are down 17.6% in the April-October 2015 period while imports are down 15% and trade deficit is down 9.9% on a year on year basis. Oil imports are down 42% in the April-October 2015 period while non oil imports are up 0.88%.
Indirect taxes are higher by 35.9% in the April – October 2015 period on a year on year basis largely due to higher rates of taxes imposed in the budget. Excise duty collections have grown 68.6% while custom duty and service tax collections have grown by around 16.8% and 26.1% respectively. Direct tax growth was at single digit levels in the April – September 2015 period indicating slow growth in profits for the corporate sector.