Posts Tagged ‘WPI’

Inflation Moves into Positive Territory after 13 Weeks !

Inflation-surge-after13weeks

The inflation finally pulled back into the positive territory for the first time since 30th May 2009.

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It remained in negative zone for 13 consecutive weeks.

India’s inflation came in at 0.12 per cent in week ended 5th September 2009, as against -0.12 per cent in the previous week.

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Meanwhile, the rate was 12.42 per cent in the corresponding week of previous year.

During the week, price indices for primary articles, manufacturing products and fuel, power, light and lubricants reported rise.

The index for primary articles increased 1.3 per cent to 274.7 (provisional) from 271.2 (provisional) the week before.

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Similarly the index for manufactured products also went up 0.1 per cent to 208.1 (provisional) from 207.9 (provisional).

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The price index for fuel, power, light and lubricants also rose slightly to 343.4 (provisional) from 343.3 (provisional) for the previous week.
However, the price of naphtha declined 7 per cent.

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The rate turned negative for the week ended 6th June 2009, for the first time since the new wholesale price index (WPI) series started in 1995.

The inflation rate had also turned negative in 1977.

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Inflation touched a high of 12.91% for the week ended 2nd August 2008 and touched a low of -1.74% on 1st August 2009.

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Where are we heading to? Part 1

Growth in Indian Industry

The Indian economy’s business sentiment has improved indicating a path of recovery.

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Let’s see, why do we say this?

A surprise improvement was witnessed in the IIP numbers for June 2009 at 7.8%.

The WPI based inflation has softened to below zero level.

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However, the prices of items of mass consumption (food articles) show no signs of softening and have risen substantially due to supply side constraints.

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The performance of inward investments has been fairly well.

The Foreign Direct Investment flows surged 13% at $4.3 bn for April-May 2009-10.

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Painting a picture of a resilient economy, Finance Minister believes the economy will grow by more than 6% despite a fear of drought and the decline in the sowing of the kharif crop, such as rice.

The strength of the economy in the slowdown is the large services sector, which has, historically, been less affected by cyclical downturns than manufacturing, a strong farm sector, robust savings rate, ambitious infrastructure development programme and upbeat foreign investors.

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The 224-million-tonnes cement industry is yet again set to strike a growth of 10 per cent in June.

The production numbers from the top cement makers are anything to go by, the continuous robust growth will be maintained.

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The Rs 82,000 crore Indian FMCG industry primarily seeking the implementation of the GST (Goods & Services Tax) by April 1, 2010 in the upcoming Union Budget, expects fiscal measures will spur growth of the FMCG sector in rural as well as urban India.

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Further, in a sign of confidence in the Indian markets, Foreign Institutional Investors pumped in over $6 billion, or about Rs. 29,940 crore this year, with over $1 billion coming in July alone.

An analysis of FIIs activity shows that overseas investors are the net purchasers of Indian stocks worth $6.18 billion (Rs 29,940.30 crore) from January to July this year.

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Also, with the India-Asean (Association of South-East Asian Nations)Β  that inked the long awaited Free Trade Agreement (FTA) for duty-free import and export of 4,000 products over a period of eight years at the Asean economic ministers meeting held in Thailand, the India-Asean trade is likely to surpass $50 billion by 2010.

The Indian economy’s business sentiment has improved indicating a path of recovery. Let’s see, why do we say this?

A surprise improvement was witnessed in the IIP numbers for June 2009 at 7.8%. The WPI based inflation has softened to

below zero level. However, the prices of items of mass consumption (food articles) show no signs of softening and have

risen substantially due to supply side constraints. The performance of inward investments has been fairly well. The

Foreign Direct Investment flows surged 13% at $4.3 bn for April-May 2009-10.

Painting a picture of a resilient economy, Finance Minister believes the economy will grow by more than 6% despite a fear

of drought and the decline in the sowing of the kharif crop, such as rice. The strength of the economy in the slowdown is

the large services sector, which has, historically, been less affected by cyclical downturns than manufacturing, a strong

farm sector, robust savings rate, ambitious infrastructure development programme and upbeat foreign investors.

The 224-million-tonnes cement industry is yet again set to strike a growth of 10 per cent in June. The production

numbers from the top cement makers are anything to go by, the continuous robust growth will be maintained.

The Rs 82,000 crore Indian FMCG industry primarily seeking the implementation of the GST (Goods & Services Tax) by

April 1, 2010 in the upcoming Union Budget, expects fiscal measures will spur growth of the FMCG sector in rural as well

as urban India

Further, in a sign of confidence in the Indian markets, Foreign Institutional Investors pumped in over $6 billion, or about

Rs.29,940 crore this year, with over $1 billion coming in July alone. An analysis of FIIs activity shows that overseas

investors are the net purchasers of Indian stocks worth $6.18 billion (Rs 29,940.30 crore) from January to July this year.

Also, with the India-Asean (Association of South-East Asian Nations) Free Trade Agreement (FTA) that inked the longawaited

Free Trade Agreement (FTA) for duty-free import and export of 4,000 products over a period of eight years at the

Asean economic ministers meeting held in Thailand, the India-Asean trade is likely to surpass $50 billion by 2010.

Factors that Move the Interest Rates – Part 2 (MONETARY POLICY)

Monetary Policy

In previous Blog we have discussed about the major factors responsible for the change in interest rates and price of bonds indirectly.

All those three factors like Inflation, Currency and Liquidity have been touched upon in last blog.

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Now time to look into another major factor which causesΒ  movement in the interest rate. The factor i am talking about is Monetary Policy. πŸ™‚

Monetary Policy: The RBI controls liquidity largely through monetary policy instruments –

(i) CRR & SLR – CRR (Cash Reserve Ratio) refers to a portion of deposits (as cash) which banks have to maintain with the RBI.

Banks are also required to invest a portion of their deposits in government securities as a part of their SLR (Statutory Liquidity Ratio) requirements.

If either of these is increased, liquidity tightens and so interest rates harden (increase).:(

Recently, RBI has reduced both these rates to infuse liquidity in the system – CRR is 5% (down 250 bps from March ’08) and SLR is 24% (down 100 bps).

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(ii) Reverse repo rate – it is the overnight interest rate that a bank earns for lending money to the RBI in exchange for G-Secs.

A hike in reverse repo rate increases interest rates. Currently, reverse repo rate stands at 3.25%.

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(iii) Repo rate – it is the discount rate at which a central bank repurchases government securities from the commercial banks.

To temporarily expand the money supply, the central bank decreases repo rates (so that banks can swap their holdings of government securities for cash).

To contract the money supply, it increases the repo rates. The current repo rate is 4.75%.

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(iv) OMO and MSS – OMOs (Open Market Operations) are outright transactions in government securities.

When the RBI buys G-Secs, it is injecting money into the system, hence, increasing liquidity, which softens (reduces) interest rates.

When the RBI sells G-Secs, it sucks out excess money from the system i.e. reduces liquidity in the system which hardens interest rates.

MSS (Market Stabilisation Scheme) is the issuance of treasury bills and dated securities by way of auction by the RBI.

This affects interest rates in the same manner as OMOs.

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Having collected updates on where the above parameters stand, one can have a better understanding of why interest rates are at their current levels, as well as which direction they are expected to move in.

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If most of them indicate that a rise in interest rates is expected, bond prices are likely to fall in the future.

On the contrary, an expectation of a fall in interest rates means bond prices will rise.

A word of caution here though – timing interest rate changes is difficult. This is because there is a low likelihood of being able to precisely predict the movement in the factors discussed above.

So in order to minimize interest rate risk, one should ensure that the bond portfolio is diversified across various maturities.

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4 Monetary Policy: The RBI controls liquidity largely through monetary policy instruments –

(i) CRR & SLR – CRR (Cash Reserve Ratio) refers to a portion of deposits (as cash) which banks have to maintain with the RBI. Banks are also required to invest a portion of their deposits in government securities as a part of their SLR (Statutory Liquidity Ratio) requirements. If either of these is increased, liquidity tightens and so interest rates harden (increase). Recently, RBI has reduced both these rates to infuse liquidity in the system – CRR is 5% (down 250 bps from March ’08) and SLR is 24% (down 100 bps).

(ii) Reverse repo rate – it is the overnight interest rate that a bank earns for lending money to the RBI in exchange for G-Secs. A hike in reverse repo rate increases interest rates. Currently, reverse repo rate stands at 3.25%.

(iii) Repo rate – it is the discount rate at which a central bank repurchases government securities from the commercial banks. To temporarily expand the money supply, the central bank decreases repo rates (so that banks can swap their holdings of government securities for cash).

To contract the money supply, it increases the repo rates. The current repo rate is 4.75%.

(iv) OMO and MSS – OMOs (Open Market Operations) are outright transactions in government securities. When the RBI buys G-Secs, it is injecting money into the system, hence, increasing liquidity, which softens (reduces) interest rates. When the RBI sells G-Secs, it sucks out excess money from the system i.e. reduces liquidity in the system which hardens interest rates. MSS (Market Stabilisation Scheme) is the issuance of treasury bills and dated securities by way of auction by the RBI. This affects interest rates in the same manner as OMOs.

Having collected updates on where the above parameters stand, one can have a better understanding of why interest rates are at their current levels, as well as which direction they are expected to move in. If most of them indicate that a rise in interest rates is expected, bond prices are likely to fall in the future. On the contrary, an expectation of a fall in interest rates means bond prices will rise. A word of caution here though – timing interest rate changes is difficult. This is because there is a low likelihood of being able to precisely predict the movement in the factors discussed above. So in order to minimize interest rate risk, one should ensure that the bond portfolio is diversified across various maturities.

Factors that Move the Interest Rates – Part 1:)

Interest rates

In earlier blog we have discussed about how Bonds are different than equities and why are they considered less risky instruments. πŸ™‚

Now coming on to this blog, we would talk about the 3 major factors (other than monetary policy) which moves the interest ratesΒ  and ultimately causes a price change in the Bonds.

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To determine where the interest rates are headed, it is important to have an understanding of the factors that move the interest rates.

This will in turn help gauge which direction bond prices are going to take, and one can make appropriate adjustments to a bond portfolio in order to maximize gains or minimize losses.

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1. Inflation:

Interest rates are directly related to inflation i.e. if inflation rises, so do interest rates.

This is because lenders demand higher interest rates to compensate for the decrease in purchasing power of the money they will be repaid in the future.

This causes bond prices to fall, since bond prices are inversely related to interest rates.

Inflation itself is affected by the economy’s currency and liquidity position.

In India, inflation is measured by WPI (Wholesale Price Index), for which is released every week.

For the week ended July 25, 2009, WPI was at (-) 1.58%. This may lead one to assume that inflation has gone down, but the reason for this low figure is a high base effect from 2008, when WPI showed doubledigit growth.

Current CPI (Consumer Price Inflation) figures are in the range of 8.6-11.5% for May-June 2009.

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2. Currency: A weaker rupee causes rising inflation, which in turn results in a rise in interest rates.

This is because one’s purchasing power reduces – if one was paying $60 or Rs.2400 (Rs.40=$1) to buy 1 barrel of crude oil, a weaker rupee (Rs.45=$1) means the same 1 barrel will now cost Rs.2700 i.e. Rs.300 more.

Similarly, a stronger rupee increases one’s purchasing power and brings down inflation, causing interest rates to fall.

The latter scenario is seen as a positive for the bond market, since it leads to rising bond prices.

Since 2008, the rupee has weakened significantly to Rs.47- 48 in July-August ’09.

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3. Liquidity: Interest rates are directly related to liquidity.

A crunch in liquidity means money is not readily available, since people are not willing to part with their cash.

A lower interest rate is then offered, which increases the price of already existing bonds in the market. The vice-versa also holds true.

One way of measuring the liquidity present in the system is to check the money supply measure – M3.

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There is another factor which is responsible for the movement in interest rates that is Monetray Policy which we would discuss in next blog

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To determine where the interest rates are headed, it is important to have an understanding of the factors that move the interest rates. This will in turn help gauge which direction bond prices are going to take, and one can make appropriate adjustments to a bond portfolio in order to maximize gains or minimize losses.

2004-05 to be new base yr for WPI: FM

2004-05 to be new base yr for WPI: FM

Finance minister Pranab Mukherjee has said the wholesale price index (WPI) series, which is used to calculate inflation in the country, will have 2004-05 as the base year.

“The WPI series is being upgraded with base year 2004-05 in lieu of the existing one with base year 1993-94,”

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With the advancement of the base year and probably a revision of commodities in the index and their weights, it is expected that the index would provide a better picture of the current scenario of prices.

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The WPI will now become more representative of today’s reality. It will come along with the revision in commodities and weights.

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Though the wholesale price index will become a better measure, but there are doubts like if the government would include services in the index and people will have to continue depending on other indices like the consumer price index.

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“The wholesale price index price data collection completely excludes the services sector,” Mukherjee said, replying to whether the current system of collecting data for monitoring prices is faulty.

The finance minister said information on weekly prices of manufactured products is highly meager.

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Finance minister also added that the data collection for calculating the consumer price index (urban) has already started.

It may be recalled that the National Statistical Commission, 2001, had recommended that the Central Statistical Organisation compile a single national consumer price index by computing the CPI (Urban) and CPI (Rural) separately and then combining them together into an all-India index.

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