The Index of Industrial Production (IIP) came in 2.4% for January, doubling consensus estimate of 1.2%, promoting analysts to believe that India’s slump in manufacturing may be bottoming out soon. The surprise gain is contributed by higher non-durables consumer goods, in line with expectations that domestic consumption is recovering. However, capital goods production continue to decline for the 3rd month in a row, signalling that investment sentiment remains depressed. That is to be expected though, as the recent budget has indicated a higher level of tax rate to help in bridging the deficit gap, which is bound to affect investment levels.
Investors are not the only ones annoyed by the budget. The Reserve Bank of India must be frustrated at the $100 billion deficit, as it has an additional mandate which requires it to ensure the Government manage to borrow enough money for the fiscal year, on top of the standard Central Bank responsibility of price stability. The already high inflation rate is going to be further stoked by record spending and borrowing by the Government in 2013, and RBI may find itself unable to contain the double digit CPI as it is obliged to continue add in liquidity even when market refuse to lend the Government money.
Generally with high inflation risks, we should see currency rallying as the likelihood of a rate hike or hawkish actions from the Central Bank increases. In this case, it is highly unusual that Rupee actually weakened against the Greenback after stronger production figures and higher than expected inflation data were announced. Both data point to higher inflationary pressures, which should mean stronger INR, so what is going on here? Well, perhaps traders are looking at inflation of India differently. While mild inflation is a good thing (remember BOJ is aiming for 2% inflation), hyper-inflation is actually detrimental to the economy, and it will not be surprising to see investors fleeing from India when inflation rates remain so high.
Daily Chart shows price being supported by the Kumo. Stoch/Signal line has just crossed as well, suggesting that we could see an interim trough which is technically bullish. If price is able to push above 54.40, we could see bullish momentum increasing to send price higher to retest the descending trendline.
Fundamentally, today’s price action suggest that investors are losing confidence in RBI’s ability to manage inflation. This would mean that future inflationary economic data may not necessary strengthen INR, but may actually weaken it as it push India deeper into hyper-inflation territory. RBI needs to work fast, and next Tuesday’s meeting will be critical to regain investor confidence back to its side.
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