India: Assessing the impact of unseasonable rains :: Nomura Research

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Although transitory, inflation momentum can rise

in the next three months.

Unseasonable rains have damaged the standing winter crop, so the output of grains,

select vegetables and fruit items is likely to decline. While on-the-ground prices were

contained in March, the past four episodes of unseasonable rains suggest there are

upside risks to food inflation, and therefore CPI inflation, in the next three months. We

estimate that the unseasonable rains could push CPI inflation close to 6% in Q2 2015,

versus our current estimate of 5.2%, indicating a transitory shock of 80bp on CPI inflation.

Unseasonable rains... yet again

Weather vagaries continue to haunt India’s economy. In the last month, unseasonable

rains and hailstorms led to large crop damage and fears of an adverse impact on

inflation. In this note, we take stock of the likely impact of these unseasonable rains.

Since the week starting 25 February, the country has recorded above normal level of

precipitation. Rains were 105% above normal during March (1-25). Most of Northwest

and Central India have received excess rain (Figure 1).

The past experience

Unseasonable rains have become a recurring phenomenon. In the last six years, there

have been four episodes of unseasonable rains – November 2009 (rains 81% above

normal), November 2010 (101%), January 2012 (79%) and February 2013 (77%).

Therefore, there are a few precedents for the unseasonable rains witnessed this March

(Figure 2). Although no two episodes were similar, these four past episodes can be used

to assess the likely impact of these unseasonable rains.

Using the past unseasonable rain episodes as a benchmark, we find that the pace of

price increase tends to pick up during the immediate three months after the

unseasonable rains (Figure 3). During the past four episodes, CPI inflation rose by an

average of 1.4% m-o-m, seasonally adjusted, in the immediate three months following

the unseasonable rains, as compared to an average of 0.7% m-o-m, sa, in the three

months preceding the unseasonable rains. However, this rise is transitory and inflation

momentum tends to fade from the fourth month onwards.

Much of this immediate (3-month) rise has been led by higher food inflation, which rose

by 1.8% m-o-m, sa, in the immediate quarter from 0.7% in the preceding quarter. Core

inflation has been relatively more subdued, although a lagged catch up (in 2-4 months’

time) is visible (Figure 4). Given the lack of details on CPI food inflation, we analyse the

sub-components of WPI food to assess the components that could drive food inflation

higher. Not surprisingly, much of the upside in food inflation is driven by a sharp

acceleration in vegetable price inflation, which picks up substantially (20-30% rise) in the

two months following unseasonable rains (Figure 5). Plus, fruits and, to an extent, pulses

registered a faster pace of price increase following unseasonable rains.

Even as the price impact of unseasonable rains is clear, the impact on food production is

mixed with years of both higher and lower production during periods of unseasonable

rains

Conclusion

Overall, unseasonable rains have damaged the standing winter crop, and output of

grains, select vegetables and fruit items is likely to decline. While on-the-ground prices in

March were contained and are not yet a significant cause for inflation concern, the past

four episodes of unseasonable rain suggest that there are upside risks to food inflation,

and therefore CPI inflation, in the next three months. We estimate that the unseasonable

rains could push CPI inflation close to 6% in Q2 2015, versus our current estimate of

5.2%, indicating a transitory shock of 80bp on CPI inflation. Since this rise is transitory,

we do not think that this should be a source of too much concern for the RBI, although

some short-term caution is warranted in order to keep inflation expectations anchored.