India's inflation dis-connect

India's January CPI (Consumer Price Index) and WPI (Wholesale Price Index) readings highlight the growing dis-connect between the two inflation measures, and would further complicate monetary policy decision making by the RBI.  This warrants caution on Indian equity markets - expectations of economy boosting lower policy rates (driven by lower inflation) have driven significant foreign investor inflows year to date ($7.8 billion).

Indian policy makers and analysts (present company included) have historically focused on the WPI (in contrast to the CPI focus for most other economies) because of its timeliness and breadth; the new comprehensive CPI (rural and urban) with monthly readings was introduced only in January 2011.

India's January CPI (yoy basis) accelerated to 10.8% from 10.6% in December 2012, and significantly higher than the 7.5% in January 2011.  January 2012 marked the highest reading for CPI inflation over its short history.  By comparison, the January WPI declined to 6.6% (below consensus expectations of 7.0%), from 7.2% a year earlier as well as in December 2012. This was its lowest reading since November 2009.

The divergence is partially explained by a) the higher weighting of food & food products in the CPI (49.7%) versus the WPI (24.3%) as food inflation is higher than headline inflation for both indexes, and b) higher measured food inflation in the CPI versus the WPI (CPI food inflation was 13.2% in January versus only 10.6% for the WPI).

Even the core inflation measures for the two indexes diverge significantly, thought lesser than the headline prints.  The decline in WPI inflation is driven by the moderation in core manufactured products (excluding foods) inflation - core manufactured products inflation declined to 4.1% in January 2013 from a near-term peak of 8.4% in November 2011. Core CPI inflation (excluding food and fuel) remained elevated at 8.4%, having troughed at 8.0% in September 2012.