JPMorgan: May IP surprises on the downside but not enough to warrant a pause in tightening

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May IP surprises on the downside but not enough to warrant a pause in tightening

May IP prints below consensus on slower capital goods and consumer durables Electricity production and consumer non-durables hold up well Equities decline, rates soften But despite the IP slowdown, with inflation (to print later this Thursday) likely to remain stubbornly high the RBI is unlikely to pause on July 26   May IP surprises on the downside May IP growth printed at 5.6%oya (-3.3 % m/m, sa), well below market expectations (Consensus 8.5 % oya; JP Morgan 8.5). While on a year-ago basis the slowdown is not that sharp (April IP grew at 5.8%oya), this is the second straight month of declining monthly growth. More importantly with strong export growth in May (56.9%oya) one had expected IP growth to be much stronger. Although evidence on inventories is hard to come by, a strong draw down of stocks is likely to be at play. Much of the decline was due to slowing capital goods (-14.4% m/m, sa) and consumer durables (-6.5% m/m, sa). This is the second month in a row that capital goods has fallen on monthly basis and the third consecutive month of negative monthly growth for consumer durables. While there may be some substitution towards imported capital goods (non-oil imports surged in May rising 63%oya), the slowing of consumer durables suggests that the rise in lending rates is starting to bite. On the other hand electricity production rose 10.3%oya (2.3% m/m, sa), while consumer non-durables grew 5.6%oya (1.1% m/m, sa). The equity market reacted understandably negatively declining around 1%, while the IY OIS fell around 10bps on expectations of a pause in tightening by the RBI.   The IP slowdown is unlikely to make the RBI pause A number of economic indicators in India have moderated over the last few weeks suggesting that the economy is slowing. Car sales growth has moderated sharply in May, as has the PMI and today’s IP print. This in conjunction with the softening global demand raises the question as to whether monetary policy has done enough for the time being and whether the RBI would temporarily pause at its quarterly review on July 26? However, June inflation is likely to print significantly above last month’s 9.1% (without the now inevitable upward revision) and that too without the full pass through of last month’s petroleum product price increases. In addition, non-food manufacturing inflation (RBI’s proxy of core) is likely to rise further in June again suggesting the domestic demand hasn’t slowed down sufficiently. This while there are signs that demand is slowing, the question the RBI will need to grapple with is whether it is slowing sufficiently. The evidence so far indicates that it isn’t. And so the RBI will likely play it safe by raising rates (25 bps) rather than pause as it did last December only to be rudely shocked by the next month’s inflation print.