Economy: Stage set for an August rate cut - Kotak

Stage set for an August rate cut. CPI inflation continues to be benign and seems set to dip below the RBI's inflation target band of 2-6% as early as June. A combination of favorable base effects as well as softness in price momentum is contributing to low inflation prints in 1HFY18. Given the expected June inflation and the softer policy tone in the RBI's June policy, we expect a 25 bps cut in the next (August) MPC meeting. April IIP growth surprised on the upside at 3.1%.

CPI inflation continues to slip lower

CPI inflation slipped to a record low of 2.18% in May compared to 2.99% in April (Kotak: 2.35%, consensus: 2.4%), led largely by favorable base effect, lower sequential momentum and slow pace in core inflation. Food inflation slipped to (-)1% compared to 0.6% in April. On sequential basis, the food index moved up 0.2% primarily led by vegetables (1.8%) and meat and fish (1.6%). Meanwhile, price of pulses continued to contract sequentially, although at a slower pace ((-)1.8% compared to (-)2.1% in April). While the high frequency data indicate some pickup in fruits and vegetables prices, the pace remains contained. We believe that there has been a structural shift in food prices (especially crops such as vegetables, fruits and pulses) due to government intervention in the form of curbs on hoarding, creating buffer stocks, etc.

Core inflation at 20-month low; headline inflation likely around 4% mark by March 2018

Core inflation continued to slide down and printed 4.1% in May (down from 4.4% in April). Monthly momentum remains under control at 0.2%. Excluding petrol and diesel, 'refined core' inflation was at 3.9% (down from 4.1%) in April. Monthly momentum was also lower at 0.2% compared to 0.3% in April. Over the next 6-9 months, we expect core inflation to peak at around 4.4% but remain under control in a range of 4.1-4.4%. We expect the headline inflation to glide up gradually from August onwards as favorable base effects wane off. We estimate CPI inflation to be around 4% by March 2018, up from the lows of around 1.7% likely in the June print.

IIP growth surprises on the upside

April IIP recorded a higher-than-expected growth of 3.1% compared to an upwardly revised 3.8% in March. Sector-wise, manufacturing grew 2.6%, mining grew 4.2% and electricity grew 6.2%. Most of the uptick in manufacturing was a result of growth in pharmaceutical products (29.1%), tobacco products (17.9%), machinery (7.8%) and basic metals (7.4%). Capital goods registered a contraction of 1.3% while consumer durables contracted 6%. The production of consumer non-durable goods grew 8.3% (Exhibits 3 and 4).

Stage set for a repo rate cut in August MPC meeting

We believe that May inflation, which surprised on the downside, is likely to be followed by a sub-2% print in June and July. This will be below the lower bound of RBI's inflation target range of 2-6%. More importantly, the MPC was keen to watch for sustenance of April's momentum and dynamics for the next couple of prints before they decide on the next rate move. It seems that the dynamics have continued well into June. Further, the May and June prints will be below the RBI's estimates (per the fan chart), which should give room for the RBI to be accommodative. We expect the MPC to weigh towards a 25 bps rate cut in the August MPC meeting.

Source : Equity Bulls

Keywords