India Inflation Tops Estimates as Rupee Plunge Tests Rajan

Indian inflation accelerated more than economists estimated in July as a plunging rupee stoked import costs, with the central bank today announcing curbs on foreign-exchange outflows to try and support the currency.

The wholesale-price index rose 5.79 percent from a year earlier, a five-month high that exceeded the median 5 percent estimate in a Bloomberg News survey of 34 analysts, a government report showed today. The Reserve Bank of India later reduced the amount some companies can invest overseas, as well as the limit on resident individuals’ remittances abroad.

The central bank raised two interest rates last month and the government this week stepped up efforts to curb a record current-account deficit, striving to stem the rupee’s 10.5 percent drop versus the dollar in 2013. Costlier credit imperils economic expansion and poses a policy challenge for incoming central bank head Raghuram Rajan, according to Credit Analysis & Research Ltd. in Mumbai.

“A reversal of liquidity tightening measures and of the increase in borrowing costs looks unlikely at least over the next two quarters, notwithstanding its damaging effect on growth,” said Tirthankar Patnaik, a strategist at Religare Capital Markets Ltd. in Mumbai.

The currency, which touched an all-time low on Aug. 6, weakened 0.4 percent to 61.4437 per dollar at the close in Mumbai. The yield on the 7.16 percent government bond maturing May 2023 rose to 8.50 percent from 8.40 percent yesterday. The S&P BSE Sensex index climbed 0.7 percent.

Restricting Outflows

The amount companies can invest overseas without seeking approval has been reduced to 100 percent of the net worth of an Indian party from 400 percent, the RBI said today. Residents can remit $75,000 a financial year, down from $200,000, it said.

The measures will be reconsidered as the rupee recovers, though India can also implement further steps as necessary to ensure rupee stability, Economic Affairs Secretary Arvind Mayaram said in a briefing.

The current-account gap and the prospect of reduced U.S. Federal Reserve monetary stimulus have weighed on the rupee. The deficit has been stoked by gold and crude oil imports and subdued overseas sales.

Indian Oil Corp., the nation’s biggest refiner, raised gasoline prices in June and July. Every 10 percent decline in the rupee adds as much as 80 basis points to wholesale-price inflation, Nomura Holdings Inc. estimates show.

Policy Mandate

Consumer prices rose 9.64 percent in July from a year earlier, a report showed Aug. 12. That’s the second fastest in the Group of 20 major economies, according to data compiled by Bloomberg. The advance in the wholesale gauge exceeded the central bank’s comfort zone of about 5 percent.

Finance Minister Palaniappan Chidambaram said in parliament today that while the wholesale gauge has moderated in recent months, consumer inflation remains high.

He also said the central bank’s mandate of price stability “must be seen as a part of a larger mandate of growth and employment.”

Chidambaram told parliament Aug. 12 that India plans to compress imports of gold, silver and some non-essential items, as well as demand for crude oil. The government yesterday raised import levies on gold, silver and platinum to 10 percent.

Chidambaram has also said the nation intends to take steps to garner capital inflows, such as allowing state-owned financial companies to issue “quasi-sovereign” bonds.

The current-account shortfall, which the Reserve Bank describes as the biggest economic risk, widened to an unprecedented 4.8 percent of gross domestic product in 2012-2013. The finance minister predicted it will narrow to 3.7 percent of GDP in the current fiscal year.

Onion Prices

The central bank raised two rates July 15 and has capped cash injections into the banking system and tightened lenders’ reserve ratios to curb the supply of rupees, joining nations from Brazil to Indonesia in fighting currency weakness.

Food prices climbed 11.91 percent in July from a year earlier, today’s report showed. The cost of onions, a staple item for the nation’s curries, surged 145 percent. Fuel and power rose 11.31 percent.

Non-food manufactured goods prices, a measure of core inflation, advanced 2.33 percent after a 2.10 percent gain in June, according to Bloomberg calculations based on the data.

Rajan, a former International Monetary Fund chief economist and the top adviser in the Finance Ministry since 2012, becomes RBI governor next month.

He said last month that steadying the rupee helps to contain inflation and “hopefully” over time will give the monetary authority room to be more accommodative.

The Reserve Bank will probably have to “keep its liquidity tightening measures in place for longer, and it may even have to tighten them further if the pressures on the currency do not abate,” HSBC Holdings Plc said in a note today.

The economy may expand 5.5 percent in the year through March 2014, compared with a decade-low 5 percent in the previous 12-month period, the central bank estimates.

Before it's here, it's on the Bloomberg Terminal.