Stagflation risk in India remains low despite recent jump in prices – RBI bulletin

MUMBAI (Reuters) – The risk of stagflation, a period of weak growth and high inflation, remains low in India despite a sharp uptick in prices, the Reserve Bank of India said in its August bulletin on Thursday.

“Stagflation risk remains low for India with a probability of only 3% with easing of financial conditions, stability of the INR/USD exchange rate and steady domestic fuel prices,” a study conducted by the central bank showed.

The uptick in June inflation mutated in July with the unprecedented shock to tomato prices spilling over to prices of other vegetables, the RBI wrote in its State of the Economy article.

India’s annual retail inflation rose sharply to a 15-month high of 7.44% in July from 4.87% the previous month, fuelled by a sharp jump in vegetable and cereal prices. The figures breached the upper end of the RBI’s inflation band of 2%-6% for the first time in five months.

High-frequency food price data for August so far shows prices of cereals and pulses continued to increase this month, according to the bulletin. Tomato prices, on average, registered a further increase, although more recent data indicates some pullback in prices, the RBI added.

Onion and potato prices also registered sequential upticks, it said.

“While core inflation witnessed a moderation (in July), headline inflation is expected to average well above 6% in the second quarter,” RBI wrote.

At the rate review last week, the Monetary Policy Committee held the repo rate steady but the RBI took measures to temporarily withdraw the liquidity overhang in the banking system.

“The slosh of liquidity also has implications for financial stability in the form of potential asset price bubbles and weakening of lending standards,” the RBI wrote in the bulletin.

“As the banking system engages in absorbing this excess liquidity into prudent credit expansion, it is necessary to temporarily pre-empt the surplus liquidity from getting into the cracks,” it added.

The central bank’s economic activity index (EAI) nowcasts GDP growth for Q1 2023/24 at 7.8%, the bulletin showed.

(Reporting by Swati Bhat and Ira Dugal; editing by Eileen Soreng)