Economic Survey 2013-14 states that in comparison with previous years, inflation showed signs of receding with average wholesale price index (WPI) inflation falling to a three-year low of 5.98 per cent during 2013-14, compared to 7 and 9% over the previous two years. Consumer price inflation, though higher than the WPI, has also exhibited signs of moderation with CPI (new-series) inflation declining from 10.21 per cent during FY 2013-14 to about 9.49 per cent in 2013-14. Food inflation, however, remained stubbornly high during FY 2013-14, reaching a peak of 11.95% in third quarter.

High inflation, particularly food inflation, was the result of structural as well as seasonal factors. Contribution of the commodity sub-groups, ‘fruits and vegetables’, as well as ‘egg, meat and fish’ to the food inflation has been very high.

Inflation in Non Food Manufactured Product (WPI core) has remained benign throughout the year, with average inflation moderated to four year low of 2.9 per cent in 2013-14, which indicates that underlying pressures of broad-based inflation have somewhat eased.

IMF has projected that most global commodity prices are expected to remain flat during 2014-15, which augurs well for inflation in emerging market and developing countries including India. The WPI inflation is expected to moderate by the end of 2014. However, there are risks to the outlook for inflation from a possible sub-normal monsoon during 2014-15 as predicted by the IMD on account of El-Nino effect, possible step up in the pass-through of international crude oil prices, and exchange rate volatility.

The course of gradual monetary easing that had started alongside some moderation of inflationary pressures at the beginning of the financial year 2013-14 was disrupted in May 2013, following indications of possible tapering of the US Fed’s quantitative easing programme. The RBI with a view to restoring stability to the foreign exchange market, hiked short term interest rate in July and compressed domestic money market liquidity.

Following the ebbing of volatility in the foreign exchange market, RBI initiated normalisation of the exceptional measures in a calibrated manner since its mid-quarter review (MQR) of September 20, 2013. The interest rate corridor was realigned to normal monetary policy operations with the MSF rate being reduced in three steps to 8.75 per cent between September 20, 2013 and October 29, 2013.

RBI in its Third Quarter Review of Monetary Policy on January 28, 2014, hiked the repo rate by 25 bps to 8 per cent on account of upside risks to inflation, to anchor inflation expectations and to contain second round effects. The move was intended to set the economy securely on the disinflationary path.

Liquidity conditions remained tight during the first half (H1) of 2013-14, mainly reflecting policy intent to stabilise the exchange market pressure. The elevated central government cash balances with RBI (particularly in Q2 and Q4 of 2013-14), quarterly advance tax outflows, and festival-induced increase in currency in circulation also contributed towards the tight liquidity phases in 2013-14. In order to prevent excessively worsening of liquidity conditions, which would have impacted financing conditions, RBI undertook measures to inject liquidity through OMO purchase auctions, overnight repo, MSF and variable rate term repos.

Inflation moderation signals easing wholesale and consumer price pressures, with food inflation remaining a key risk to stability. WPI and CPI inflation moderated during 2013-14 while food inflation remained elevated, driven by fruits and vegetables and egg, meat and fish. Non Food Manufactured Product inflation stayed benign, suggesting limited broad based pressure. External factors and a possible sub normal monsoon posed risks. Monetary policy shifted from easing to temporary tightening amid exchange market volatility, followed by calibrated normalisation and a policy rate increase to anchor inflation expectations, with liquidity managed through OMO, repo, MSF and variable rate term repos to safeguard financing conditions.