Inflation: RBI may have to tighten rates, says HSBC

The Reserve Bank of India (RBI) is likely to remain in wait-and-watch mode now, but will eventually need to tighten policy rates to contain upside risks to inflation, an HSBC report said.

Global brokerage HSBC said the uptick in retail inflation in March, coupled with fears of the El Nino factor spoiling the monsoons this year, may result in some hike in policy rates by the RBI.  "Inflation picked up after months of food-driven disinflation. Looking ahead, the El Nino and geopolitical uncertainties are additional risks to inflation that have emerged in recent months, which should keep the RBI singing a hawkish tune and possibly hike policy rates further," it said without offering a timeline.

The retail or consumer price-based inflation, which has gained greater currency within RBI recently, moved up to 8.3 per cent in March from February's 7.9 per cent, driven by a surge in food prices. Drawing attention towards the possible El Nino factor, which entails unusually warm temperatures which disrupt rainfalls, it pointed to 2009 experience, when it had last played out, resulting in a 14 per cent jump in food inflation as monsoons failed.

"If food inflation goes back to these levels from 9 per cent presently, it could potentially add up to 2.5 percentage points to headline CPI," it said in the note. Additionally, it said the Rs 0.5 hike in diesel prices is expected to continue for at least one year, unless the new government changes the policies.

The RBI may eventually respond by tightening policy rates further to contain upside risks to prices and to bring inflation to 6 per cent or below by early 2016 if it sticks to the Patel Committee's recommended glide path, HSBC said.

The RBI's target is to ease retail inflation, as measured by the Consumer Price Index, to 8 per cent by January 2015 and 6 per cent by January 2016. Both retail and wholesale price inflation accelerated in March due to rising food prices. While wholesale inflation rose to a three-month high of 5.7 per cent, retail inflation inched up to 8.31 per cent, after softening for three straight months since December.

The apex bank had increased the key policy repo rate three times since Raghuram Rajan took over as Governor in September.  "A dry spell this year due to El Nino could push up food inflation. The last time we had poor weather due to El Nino was in 2009 and food inflation averaged 14 percent then," the global brokerage firm said.

El Nino refers to the warmer-than-average sea surface temperature in the central and eastern tropical Pacific Ocean. This condition occurs every 4-12 years and had last impacted India's monsoon in 2009, leading to the worst drought in almost four decades.