Inflation Effect: Is this the end of the India Growth story?

Week after week the inflation data is causing tremors in the markets. For week ending May 3, 2008, it has risen to 7.83%, a level not seen since 2004. How does it auger for the Indian economy? Inflation indeces comprise of 3 broad catagories: Agricultural output, Metals and Energy (Oil & Gas). Today analysts are pointing towards continuation of higher inflation, due to higher demand from the developing world, including India and China. The way things stand today, inflation is driven by high level of speculation in the 'commodity markets', a bubble which is waiting to burst. In the developed world, commodity prices have hit new highs recently as a lot of hot money has been diverted to the commodity markets, from other markets. Even pension funds have been investing higher proportion of their funds in commodities as a diversification tool. Let us analyse the movement of prices in India in the next 3-6 months:

• Agriculture: Foodgrain prices in India have started to ccol off with the bumper wheat harvest. World over foodgrain prices have softened recently. With the likelihood of normal monsoon prediction for the year in India, foodgrain prices are likely to remain soft over the next 2 quarters. The impact of this will be evident in the inflation indeces within the next 2 weeks.
• Metals: The slowdown in demand is starting to show its impact on prices of select metals. Gold is down almost 15% from its peak, and Nickle prices have cracked almost 50% from their peek. Iron ore prices are also showing signs of weakness. Cement prices in India historically have been low in the monsoon months, the impact of which will be seen after the onset of monsoon by the end of this month. Cement producres have been smart enough to reduce the prices of a bag of cement upto Rs.7 foreseeing a slump in demand.
• Energy: The only cause for concern remains the high crude oil prices. With the energy demand from the western world continiuing unabated, crude prices have continued their upward march. Speculation in the commodity futures is responsible for this trend. Indian economy is facing a double whammy: high crude prices accompanied by the slipping Rupee is causing a huge outflow of funds, putting pressure on the inflation indeces. Oil should peek out somewhere around the 130 $/ barrel mark soon.

Our stock markets have shown tremendous resilience, despite the negative inflation data, and flagging IIP numbers. In the short to medium term the markets have the potential to move upto 10 % from these levels, which will be an opportune time to book partial profits. The first quarter results for India Inc. may provide a slight negative bias, forcing the markets to react negatively. But a normal monsoon will help in easing the inflationary pressures by the second quarter of this fiscal.