Economy
CPI inflation is key to India’s macro outlook

CPI inflation is expected to moderate from 10.9% currently to around 7% by March 2014 as the government’s steps to correct the bad growth mix (high fiscal deficit and low investment spending) have been showing some results, says Morgan Stanley in its India Economics report

Recent macro data have continued to concern investors. Growth has slowed to a 10-year low but macro stability indicators such as, CPI (consumer price index) based inflation and the current account deficit have continued to worsen. These observations were made my global investment bank Morgan Stanley in its India Economics report.

 

Trailing macro data points are a cause of concern for investors, but the investment bank believes that the worst may be over. The government’s steps to correct the bad growth mix (high fiscal deficit and low investment spending) have been showing some results. This will help to gradually improve the macro stability indicators. Looking as these factors, Morgan Stanley says that CPI inflation would be most important to assess the macro outlook.

 

Explaining the importance of CPI inflation, the Morgan Stanley reports says monthly CPI inflation is a conclusive measure of trends in underlying growth mix and productivity while WPI (wholesale price index) based inflation is not fully representing underlying inflation pressures in the economy. CPI inflation is a conclusive measure of trends in underlying growth mix and productivity, which is critical to determine gold imports and the current account deficit. A sustainable reduction in interest rates would be likely to follow CPI moderation, the report adds.

 

Recent macro data have remained concerning, states Morgan Stanley. GDP growth for the quarter ending December 2012 was 4.5%, the lowest since the quarter ending March 2009 (on a quarterly basis). …but trailing macro stability indicators such as CPI inflation and the current account deficit have continued to worsen. WPI inflation has been moderating, but CPI inflation (new index) rose to 10.9% y-o-y in February 2013. Similarly, the current account deficit too widened to an all-time high of $32.6 billion (6.7% of GDP) in the quarter ending December 2012.

 

Four reasons why CPI inflation is key to India’s macro outlook

Reason 1: WPI inflation is not fully representing underlying inflation pressures in the economy

In the past, price levels as measured by WPI and CPI (Industrial Workers) usually tracked similar trends—but over the last three years a huge gap has opened up. To be sure, the Reserve Bank of India (RBI) has always maintained that it looks at all price statistics —including WPI, CPI and GDP deflator—in assessing inflation trends.

 

The gap in the price levels is not just because of the higher weight of food in CPI and higher food inflation. Non-food CPI levels have also persistently been higher than WPI/non-food WPI. Indeed, the gap between non-food manufactured WPI (which represents 55% of overall WPI) and CPI has been extremely large. Morgan Stanley says that each of these indices covers different items and their weighting patterns are also different. The idea behind using core inflation is to exclude the volatile components.

 

 

The RBI paper on this topic, had said, “The main argument here is that the central bank should effectively be responding to the movements in permanent components of the price level rather than temporary deviations. In Indian context, the derivation of core inflation by exclusion of food and energy from CPI/ WPI discards a substantial portion of the commodity basket. Although these prices have substantial effects on the overall index, they are often quickly reversed. But the reversal of volatile prices sometimes is not short-lived. Thus, determining when to use a core inflation measure versus an overall inflation measure is a complex issue.”

 

To the extent that the gap between price levels as measured by CPI and WPI/Core-WPI has been persistent and rising, Morgan Stanley finds WPI/ Core WPI inflation insufficient to assess the outlook for inflation expectations. Moreover, WPI core inflation is highly influenced by global commodity prices; these represent raw materials and intermediate good prices more than finished goods.

 

Reason 2: CPI Inflation is a conclusive measure of trends in underlying growth mix and productivity

Persistently high inflation expectations since the credit crisis are the result of the bad growth mix pursued by India’s policy makers. This mix has been characterized by a high national deficit remaining in the range of 8.5%-10% of GDP (excluding one-off telecom revenues), and a significant decline in the ratio of private investment to GDP at the same time. This approach of fiscal expansion supporting consumption – thus pushing up aggregate demand at a time when private investment (aggregate supply) was declining—has fed back into persistently high inflation.

 

Moreover, some of the policy decisions not only resulted in a higher government deficit but also distorted the productivity dynamic. For instance, the national rural employment scheme has been one of the key factors pushing rural wages without matching gains in productivity—pushing inflation higher. Rural wages, which constitute a high proportion of food production costs, have been adversely affecting food inflation. Food has a weighting of 47% in the CPI, so sharp gains in food prices have been the key factor contributing to persistent prices pressures.

 

Reason 3: CPI inflation trend is critical to determining gold imports and the CAD

Net gold imports have risen from an average of close to 1.2% during 2003-07 (when CPI-IW inflation averaged 4.8%) to about 3% of GDP in the last two years (with CPI inflation averaging 9.3%). The key factor driving this rise in gold imports has been persistently high inflation expectations driven by bad growth mix, according to Morgan Stanley. There is also a debate as to whether gold prices have influenced gold imports, but the movement in gold prices has been a less influential factor. For example, gold prices almost doubled between 2004 and 2007—but gold imports as a percentage of GDP remained unchanged. Historically gold imports have moved inversely to real interest rates. Persistently high inflation expectations since the credit crisis, leading to negative real interest rates, have encouraged higher gold imports.

Presently, though WPI inflation has started to moderate since October 2012, CPI inflation (a better indicator for inflation expectations) remains elevated—and this is keeping gold imports high.

 

 

Reason 4: A sustainable reduction in interest rates would be likely to follow CPI moderation

Morgan Stanley opines that policy rate cuts are not likely to be fully effective until a meaningful deceleration in CPI inflation and improvement in deposit growth is notices. High CPI inflation and negative real interest rates have hampered deposit growth, keeping the credit-deposit ratio elevated. Indeed, deposit growth decelerated to an average of 13.7% y-o-y during the quarter ending March 2013 from 18% at the beginning of F2011.

 

Households tend to increase allocation to physical savings (including gold) when real interest rates are negative. The RBI has reduced policy rates by 50bps since January 2013, but this has yet to translate into meaningful reduction in lending rates by banks. If credit and deposit growth are at current levels, the credit-deposit ratio will continue to move up on a seasonally adjusted basis.

 

The investment bank expects CPI inflation to moderate from 10.9% currently to around 7% by March 2014. It has justified this with five key factors: 1) lagged impact of slower government spending growth; 2) deceleration in rural wage growth; 3) slower rise in global commodity prices, particularly oil; 4) moderation in asset prices, particularly housing; and 5) slower growth in domestic demand.

 

However, the Morgan Stanley report cautions that any sharp increase in government spending again before the elections; any policy move from the government that begins to accelerate rural wage growth again; or A spike in global commodity prices could lead to a reversal of the trend.

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I feel I can learn a lot from Kolkata and take those things back to Gujarat: Gujarat CM Narendra Modi

Modi in his speech in Kolkata felt that India's federal structure is being overlooked by the UPA government in Delhi, and that West Bengal and Gujarat have common problems to face

Gujarat chief minister Narendra Modi was critical of the UPA government at the Centre in today’s context, and the Congress rule in Gujarat before he took over as chief minister. He felt that the Trinamool Congress government in West Bengal has similar problems after years of CPI (M) rule. “In Gujarat, I spent 10 years in filling potholes which the Congress created ... here, they (Left government) made potholes for 30 years but the present (Mamata Banerjee-led) government is going in the right direction,” Modi said. He was sharp in his words on the Central assistance, “The federal structure is being toyed with. UPA states are getting beneficial treatment.” He traced back to the BJP government at Delhi and said, “During Atalji's time, when the left ruled Bengal, not once did the state government complain of unfair treatment.”

 

Modi closed the argument on Centre-state relations for development projects by saying, “The Government of India cannot be biased towards states. It should form rules which it thinks are right.” On credit taken for achievements, he said, “If a state does something good, the Government of India rushes to take credit, but in times of difficulty, all blame is put on the states.”

 

Modi made a happy entry into West Bengal and made his first speech to the members of the Indian Chamber of Commerce, MCC Chamber of Commerce and Industry and Bharat Chamber of Commerce in Kolkata after visiting Dakshineswar Kali Temple and Belur Math. He remarked, “I feel I can learn a lot from Kolkata and take those things back to Gujarat.” Rajiv Mundra, president of Indian Chambers of Commerce, Ashok Aikat, president, Bharat Chamber of Commerce and prominent businessman Deepak Jalan were there in Kolkata to host Modi.

 

He was all-praise for West Bengal saying, “Knowledge era came to Bengal in the 18th and 19th centuries. Today, the world talks about the 21st century as the Century of Knowledge.” Modi added, “I am glad to have had these experiences in the 150th birth anniversary year of Swami Vivekananda.”

 

Encouraging industrialists at his Kolkata venue, Modi said, “Bengal's development will lead to the development of Eastern and North-eastern India.” For the media covering his speech his remark was, “request the media to think that I am speaking in Ahmedabad so that there will be no comparison between governments.”

 

Speaking on the problems faced by Gujarat, Modi said, “Gujarat has desert, we face water scarcity, only Narmada and Tapti are perennial rivers.” Yet, Gujarat has done reasonably well. He pointed out, “Government of India has not been able to achieve 4% agri growth. Gujarat's average growth rate for the last decade has been 10%.” He said that Gujarat has worked hard to try to attract investment from industrialists present in his home state. He concluded his speech with thunderous applause.

 

Lastly, Modi’s remark on Bengal being a more attractive tourist destination than Gujarat may be recalled with his words, “Like Durga Puja, we have navaratri, people from all over the world come to see Durga puja, but not Navaratri.”

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TCS to acquire French IT services firm in all-cash deal of over Rs530 crore

The acquisition will enhance TCS’ ability and footprint to service its customers in France and other regions in Europe

IT services major Tata Consultancy Services (TCS) said it will acquire France-based enterprise solutions provider Alti SA for 75 million euro (about Rs533 crore) in an all-cash deal.

 

The acquisition will help transform the Indian IT services company into a major player in France, the third-largest IT services market in Europe, and provide the firm access to blue-chip French and European clients in banking, luxury, manufacturing and utilities sectors.

 

TCS in a release said “...it has signed definitive agreements for the acquisition of 100% equity shares in Alti SA, an IT services company in France, for a value of 75 million euro in an all-cash transaction.”

 

The acquisition will enhance TCS’ ability and footprint to service its customers in France and other regions in Europe, it added.

 

Assessed at over 30 billion euro, the France IT Services market is the largest in Europe, after the UK and Germany. TCS has been operating in France since 1992 and has over 50 clients in the country.

 

Alti SA is a leading French technology services firm with expertise in IT services including Enterprise Solutions, Assurance and CRM solutions. It is a privately-held company owned by its management and two private equity funds, CM-CIC LBO Partners and IDI, which supported its growth from a revenue base of 64 million euro in 2007 to 126 million euro in 2012.

 

Regarded as one of the top five system integrators of enterprise solutions in France, Alti’s key customers comprise several top French corporations in the banking, financial services, luxury, manufacturing and utilities sectors.

 

The company has 1,200 employees based in France, Belgium and Switzerland.

 

TCS was trading at Rs1,505 per share on the NSE in noon trade, up 1.64% over its previous close.

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