The rupee depreciation and rising commodity prices have led to higher input prices for manufacturers, as borne out by the latest Purchasing Managers' Index (PMI) readings put out by HSBC.
The HSBC India Manufacturing PMI rose marginally to 55 in June, up from 54.8 in May, owing chiefly to improvement in output growth. New orders and new export orders grew, but at a slower momentum, particularly for export orders, a statement said. A PMI reading above 50 indicates expansion.
However, despite the higher PMI, inflation remained clearly elevated, as borne out by the higher input costs reported by the survey.
Input prices (65.1 vs. 64.2 in May) and output prices (59.5 vs. 57.8 in May) accelerated in June, remaining well-above their historical averages. The rupee depreciation and higher commodity prices were cited as the main contributors for input cost increases. Survey respondents also said firm demand and rising labour costs led to a bump up in prices charged, the statement said.
The Reserve Bank of India (RBI), at its mid-quarter monetary policy review on 18 June did not reduce key interest rates despite being widely expected to do so against the background of seriously slowing growth and industrial production. RBI's concern was inflation, which remained elevated, and the central bank debunked the fact that growth had suffered because of rates being high. The Prime Minister, Manmohan Singh, who has recently taken charge of the finance ministry, has also called for a revival of 'animal spirits' in the economy and a return of the growth momentum.
The other bit of good news from the PMI figures is the fewer power cuts, as opposed to power-cuts driven shortages in earlier PMI readings. Firms increased output thanks to fewer power cuts and a pick-up in hiring. Demand has also held firm.
But the survey also throws up the fact that growth is constrained by the slow progress on supply-side reform, something which gradually reduced output potential. Sentiment has also been impacted owing to the lack of reform momentum, which in turn took its toll on the investment cycle.
Says Leif Lybecker Eskesen, HSBC's Chief Economist for India & ASEAN: "The RBI did the right thing by keeping key policy rates on hold in June. Loosening monetary policy at this stage would, at best, tease up demand, but not re-invigorate the supply side. In turn, this could quickly translate into rising inflation. Instead policy efforts should focus on taming the fiscal deficit and rolling out supply side reforms at a faster pace."
The feeling, therefore, is that RBI may need to keep interest rates on hold for a while, given the latest PMI reading and accelerated inflationary trends.