Inflation probably eased in December on lower food prices

New Delhi: India`s stubbornly high inflation finally appears to be slowing down following a cooling in vegetable prices, bringing some relief to the ruling congress party which is struggling to win back voters ahead of a national election due by may.

Easing inflation will also make life easier for a Reserve Bank of India (RBI) that has an arduous task of pulling the economy out of a stagflation-like situation. Economic growth has been stuck below 5 percent for the past four quarters but prices have risen at a fast clip.

Wholesale prices, India`s benchmark inflation, also likely edged down last month to 7.00 percent from a 14-month high of 7.52 percent in November, according to a Reuters poll showed.

"Inflation has peaked in the near-term," said Rahul Bajoria, regional economist with Barclays Capital in Singapore. "But any supply shock has the potential of flaring up food prices."

Wholesale prices data is due on Tuesday at 0630 GMT.

Annual headline inflation has been averaging 8 percent, almost double the central bank`s comfort zone, for the past four years. Even India`s worst economic slowdown in a decade has failed to cool prices.

Persistently high inflation amid the slowdown is pressuring household budgets and company profits, hitting consumer demand as well as corporate investments.

At the heart of inflationary woes are the prices of essential food items such as vegetables. Spikes in their prices have led to demands for higher wages, which in turn have raised costs for companies.

COSTLY VEGETABLES

A surge in vegetables prices, which rose 116 percent between March and November, was one of the principal reasons for the drubbing the Congress party received in recent state elections.

Vegetables from a new harvest started reaching markets by early December, and that has brought down the prices of items such as onions, which figure into almost every Indian meal.

The onion price, which once shot up 190 percent to $1.61 a kilogram, has come down to 48 cents. Still, not every Indian household is finding it affordable.

After the price spike, "I was using only one medium onion per day to prepare meals," says Rina Sahu, 42, a homemaker in the eastern state of Odisha. "Now I am using two per day. But if I use more onion, it will upset our budget."

This is a major worry for the Congress party as it heads into the election. According to most opinion polls, the party will struggle to win a third term, in part due to its failure to control inflation.

Its inflation fight is largely hobbled by its own welfare policies such as subsidised government purchases of grains that has not let food prices fall below a certain level.

CENTRAL BANK HEADACHE

Rigid food prices are also causing a headache for the RBI, whose new chief Raghuram Rajan has made quelling inflation a priority over stimulating economic growth.

Rajan calls price stability a prerequisite for reviving India`s economic growth, and has raised interest rates twice after taking over in September.

He left the lending rate unchanged last month but warned of another hike if prices did not moderate substantially. He is due to review monetary policy on January 28.

A reduction in inflation should open the way for the RBI to keep holding rates, though there could be pressure to raise them to keep equity inflows in the country if the U.S. Federal Reserve steadily reduces its stimulus and the dollar strengthens.

Bajoria of Barclays thinks the central bank can cope. "We are expecting the RBI to keep interest rates unchanged for next six months," he said.