Dear FM, your WPI inflation numbers are probably wrong

Inflation in June has probably touched double-digits. The official wholesale prices index (WPI) released on Thursday shows that the annual inflation rate rose from 9.06 percent in May to 9.44% in June, but this is likely to be widely off the mark. Reason: fuel prices were hiked substantially towards the end of June and the second-round effects will show up only gradually.

A look at the revised WPI numbers for April tells us why. The provisional WPI number for April showed inflation at 8.66 percent. But the new, revised figure released on Thursday shows a sharp increase to 9.74 percent. That’s a huge difference of 1.08 percent between the provisional and final figures for April.

If the final June figure is revised anywhere like what we saw in April, the 9.44 percent is most certainly a gross underestimate and we are already into double-digit inflation. In fact, we may have tipped over into double-digits in May itself.

But June and July could really be worse, since we have seen a major hike in petroleum product prices - especially in cooking gas (LPG), kerosene, and the all-important diesel.

On 24 June, the government revised the prices of diesel and kerosene by Rs 2-3 a litre, while cooking gas cylinder prices were raised by Rs 50.

Since “Fuel and Light” has a weight of nearly 15 percent in the WPI, the chances are that these will be reflected in the revised June numbers and also in July, when the second-round effects of the diesel price hike will also begin to be felt.

The latest WPI figure thus comes in well below a Reuters forecast of 9.7 percent rise in June. It also tells us why June should really be higher than what has now been disclosed.

For example, the disaggregated numbers show that food inflation has actually risen from 7.61 percent on 25 June to 8.31 percent in the week to 2 July, while fuel shows a fall from 12.67 percent to 11.89 percent during the same week. This means the indices have probably captured the first round impact of the 24 June fuel price hikes, but nothing more. This will happen in July.

So what will the Reserve Bank do now? If it takes the June WPI numbers at face value-which it probably won’t, given the recent doubts expressed by Governor Duvvuri Subbarao over faulty data-the next policy review on 26 July will see a 25 basis points (0.25%) hike in the repo rate (the rate at which the Reserve Bank lends to banks).

If the RBI assumes that the actual WPI may be in double-digits, as seems likely, it will continue its monetary tightening for a bit more time.

The betting is that between now and March 2012, there may be two or three hikes adding up to 50-75 basis points in the repo rate, which means interest rates will peak towards the end of this year. They haven’t yet peaked.

Only if the industrial slowdown gets worse-the May Index of Industrial Production (IIP) fell to 5.6%, its lowest since August last year-will the Reserve Bank ease up earlier.

So, hold tight. The worst isn’t over.

Experts see double-digit inflation in July. Watch video