Short-term inflation expectations have cooled, but broad trends still point to higher-for-longer inflation
While India’s recent inflation figures are on a downtrend trend, broad inflation levels remain elevated and are likely to stay high over the next 12 months. The slowdown in the pace of commodity price increases will provide temporary relief from margin pressure while offering firms some space to think through their pricing architecture and priorities on protecting margins or market share. Meanwhile, customer segmentation by profitability will continue to be key.
Overview
Inflation levels globally and in India have been trending down over the past three months compared to the immediate aftermath of the Russia-Ukraine war. There are three main drivers of the recent price slump: a weakening commodity demand outlook amid slowing global growth, softer demand from China due to the persistence of the zero-COVID policy, and the fact that war-related supply disruption has not been as severe as the market anticipated in March. Read more on our global inflation view here.
Meanwhile, inflation growth in India eased from 7.8% YOY in April to 6.7% YOY in July. In addition to the global factors described above, some domestic factors have also contributed to the recent drop:
Rice prices: Global rice prices have emerged from a prolonged period of deflation in the past two months, pushing up prices of the staple for major importing countries. However, this trend does not pose a particular risk to prices in India, as the country is almost completely self-sufficient for domestic rice demand and has a highly price-controlled market for rice among other agricultural products.
Cheap crude oil imports: Aside from the recent fall in global fuel prices, India also benefits from importing cheap crude oil from Russia following the invasion. India increased its imports of Russian oil by nearly five times in April/May 2022 compared to last year, most recently making Russia its second-largest supplier of oil. With these imports coming at a significant discount, the Indian government was able to cut domestic fuel taxes in May.
Our View
Global commodity prices (ex-natural gas) are likely to taper back to pre-invasion levels in the short term. This means manufacturing companies should see some relief on their cost of production. However, companies should note that global commodity prices will remain high over the next 12–18 months compared to pre-pandemic levels, and the recent taper is not an indicator of a trend reversal. The two drivers of lower inflation for India—rice and oil prices—will likely continue to cool prices during this time.
However, upward pressure on prices also remains through two key channels:
Producer price passthrough: Manufacturers have faced very high prices for a prolonged period and continue to pass increases to consumers to ease pressure on margins. This effect has yet to fully be accounted for in the inflation print.
Exchange rate effect: The Indian rupee has depreciated by about 7% YTD and is likely to continue depreciating through the rest of this year. Currency depreciation will continue to put upward pressure on prices of imported products.
As a result of these competing dynamics, we have slightly revised down our 2022 inflation forecast from 7% YOY to 6.8% YOY, while maintaining the 2023 forecast at 5.8% YOY.
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