● One reason the word "crisis" gets bandied about these days is
that the steep 24% fall in the INR since April can start a downward
economic spiral. As a weaker INR helps growth, unpayable forex
debt, fiscal problems and a spike in inflation are the likely fears.
● On inflation, the first-order effect seems limited to the WPI (32% is
in USD), and not so much on CPI (5%) or CPI-AL (0%). Further,
the transmission comes with varying time-lag (e.g. carmakers
raising prices only now, three months after the fall started), and is
item-dependent (e.g., steel prices in INR have not changed).
● While the full translation impact is likely to be as high as 7.5 pp on
the WPI, the immediate broader economic impact at least in the
form of inflation is likely limited. The government's decision on
diesel price post the Parliament session would be critical.
● Other than the second order impact due to fuel price hikes, the part
of the economy that is doing well (low-income India) may not see real
wage erosion. Middle-income India and large-scale investment will
see more pressure (Fig 3). RBI's 18 September decision will be tricky
(esp. as CS India’s strategy view is that the INR's fall is short-lived).
One reason the word "crisis" gets bandied about these days is that a
steep 24% fall in the INR since April can start a downward economic
spiral. As a weaker INR helps growth, unpayable foreign currency
debt and a spike in inflation are the likely fears.
Inflation: CPI first-order linkage to rupee the lowest
A weak INR affects prices of items that are imported or linked to
global prices. Further, the price translation into INR for various items
is likely to happen with varying degrees of delay (e.g. carmakers are
only raising prices from 1 September, three months after the currency
fall started), and will be affected by local demand-supply dynamics
(e.g., despite the weak INR, steel prices in INR have not budged).
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that the steep 24% fall in the INR since April can start a downward
economic spiral. As a weaker INR helps growth, unpayable forex
debt, fiscal problems and a spike in inflation are the likely fears.
● On inflation, the first-order effect seems limited to the WPI (32% is
in USD), and not so much on CPI (5%) or CPI-AL (0%). Further,
the transmission comes with varying time-lag (e.g. carmakers
raising prices only now, three months after the fall started), and is
item-dependent (e.g., steel prices in INR have not changed).
● While the full translation impact is likely to be as high as 7.5 pp on
the WPI, the immediate broader economic impact at least in the
form of inflation is likely limited. The government's decision on
diesel price post the Parliament session would be critical.
● Other than the second order impact due to fuel price hikes, the part
of the economy that is doing well (low-income India) may not see real
wage erosion. Middle-income India and large-scale investment will
see more pressure (Fig 3). RBI's 18 September decision will be tricky
(esp. as CS India’s strategy view is that the INR's fall is short-lived).
One reason the word "crisis" gets bandied about these days is that a
steep 24% fall in the INR since April can start a downward economic
spiral. As a weaker INR helps growth, unpayable foreign currency
debt and a spike in inflation are the likely fears.
Inflation: CPI first-order linkage to rupee the lowest
A weak INR affects prices of items that are imported or linked to
global prices. Further, the price translation into INR for various items
is likely to happen with varying degrees of delay (e.g. carmakers are
only raising prices from 1 September, three months after the currency
fall started), and will be affected by local demand-supply dynamics
(e.g., despite the weak INR, steel prices in INR have not budged).
The translation impact is likely to manifest itself first, and over the next
several quarters other second and third-order effects may emerge
(e.g., fuel price hikes, raising detergent prices because surfactants are
imported, etc). As one would expect, the first-order impact is likely to
be the highest for WPI (32% of items denominated in US$: marked
Global in Fig 1), followed by CPI (5%) and then CPI-AL (0%).
Global commodity prices up 25% YoY
We have observed strong correlation between the IMF World
Commodity Index and WPI Global. This index is up 25% YoY in INR
terms, while being up only 4% YoY in USD terms
This suggests that on full translation (likely not immediate, but should
be visible in 2–3 months), if the INR stays unchanged at 29 August
levels, the WPI can spike up by as much as 7.5 pp, i.e. go from 6% to
14%. The impact on CPI and CPI-AL is likely to be 125 bps and zero
respectively. After a long time, CPI is likely to undershoot WPI.
Other than the second order impact due to fuel price hikes, the part of the
economy doing well (low-income India) may not see real wage erosion.
Middle-income India and large-scale investment will see pressure.
Implications: Tough decision for RBI; company margins?
These numbers should start showing up in the August inflation data. The
policy meeting on 18 September thus will be interesting, and not just
because it will be the first one for the new governor Dr. Rajan. The CS
India strategy team’s base case remains that the rupee should
appreciate to 57–58 levels by Mar-14: the panic down to 68 is likely to be
followed by an equally rabid recovery following a period of stability. Even
if the RBI does not share this view, reacting strongly to what is clearly a
psychologically driven correction may be unwise.
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