Demand revival brings back inflation fears

NEW DELHI: The warnings of deflation earlier this year are being replaced by fears of inflation as price increases begin to build up again on the back of a demand revival in the economy, excess liquidity and surging commodity prices.

The expected hardening of inflation and incrementally-positive data inflow on the growth front could trigger a long pause on the monetary policy front, say economists.

An upward revision in expected inflation at the end of the fiscal year to 6.5% from an earlier forecast of 3% by Goldman Sachs shows that inflationary expectations are beginning to build up again.

An analysis of the week-on-week movement of items in the basket of the wholesale price index and the consumer price indices shows that the fall in prices had bottomed out by March this year. Reserve Bank of India governor Duvvuri Subbarao���s comment that it might be time to start thinking about reversing ���expansionary��� policies gathers a new dimension in light of the new scenario.

Along with the rising cost of living for the common man, an upward spike in inflation will also push up borrowing costs. The central government is expected to raise more than Rs 3.6 lakh from the market to plug the fiscal gap.
Goldman Sachs��� research note also pointed out that the output gap would continue to shrink and will further exert upward pressure on prices.

The growth in broad money (M3) was over 20% on a year-on-year basis in May, way above the central bank���s target of 17%, hinting at the excess liquidity in the system. ���While recovery is not yet visible on the export front, industrial production is beginning to do better and an improvement in domestic and global investment climate is happening. The fall in prices has bottomed out,��� says DK Joshi, chief economist at credit ratings agency Crisil.