Published on 13/10/2017 12:49:04 PM | Source: Emkay Global Financial Services Ltd

GST restocking improves growth; is it sustainable? - Emkay

Aug’17 IIP unexpectedly grew by 4.3% yoy, which was largely broad based, from a subdued growth of 0.9% in Jul’17. The divergence in the growth estimate was largely due to unexpected growth in capital goods and consumer non-durables sector. Inventory buildup on upcoming festival season and restocking post the GST roll-out might have shown sharp uptick in IIP growth which might continue in Sep’17 as well.

On the other hand, CPI remained stagnant at 3.3% in Sep’17, we were expecting the inflationary pressure to further buildup to 3.6%. Although, the headline CPI remained constant, the increase in inflationary pressure was broad based as indicated by the diffusion index. Core inflationary pressure has intensified due to impact of HRA implementation. Implementation of 7th pay commission by the states and PSU’s is likely to increase the CPI by another 100-150bps in 18- 24 months. We maintain our view of hardening inflation outlook (4.2-4.5% with an upside bias) and RBI refraining from any further rate cuts.


Capital goods sector post a higher growth in last 5 months

Capital goods reported a growth of 5.4% yoy, quickest pace in last 5 months, on back of strong growth of 10.2% in machinery & equipment. Stronger growth in capital goods might be an effect of restocking from GST dislocation and can be also attributable to higher government capital spending of 20.1% yoy (Apr-Aug’17). Consumer non-durables continued to surprise with a growth of 6.9% yoy in Aug’17 due to healthy growth of 8.0% in food production and 16.5% growth in pharmaceutical production. Within Pharmaceuticals & Medicine production, Digestive Enzymes contributed significantly to the sector’s performance (contributed 0.9pps to headline growth of 4.3%). Consumer Durables grew by 1.6% yoy, it has remained subdued since the demonetization announcement. The healthy growth in consumer durables is due to strong growth in telephone instruments which grew by 23.2% yoy. Next month’s high based of 10.3% yoy is likely to maintain the durables growth subdued. Primary goods sector grew by 7.4% yoy, largely attributable to high growth in electricity generation and diesel production of 8.3% yoy and 5.8% respectively.


CPI remains at 3.3% in Sep’17; core inflation continues to rise

September CPI reading remained at 3.3% yoy, lower than our estimate of 3.6%. Price build up in inflation (according to diffusion index) was broad based as 82% of the items reported MoM increase. Core inflation and core-core inflation both increased to 4.6% yoy and 4.8%, respectively, which can be attributed to implementation of new HRA norm, increase in petrol prices and rise in taxes in some services due to GST. Food inflation, on the other hand, eased to 1.3% yoy, led by drop in Vegetables inflation to 3.9% vs 5.9% in Aug’17. Divergence in trend was observed in rural vs urban inflation, as the urban inflation picked up in Sep’17 to 3.4% while rural inflation eased to 3.2% vs the previous month reading of 3.3% and 3.1% respectively. Divergence is mainly due to housing inflation which increased to 6.1% yoy in Sep’17, in last 3 months due to HRA implementation housing inflation has increased by 3.2%.


Outlook: RBI to maintain its neutral stance

Restocking post the GST and the festival season is likely to build a positive outlook for growth in September. Nature of government spending and rising commodity prices are likely to improve IIP growth in H2FY18. We believe upside risks to inflation projection emanates from: a) fiscal expansion, b) farm loan waivers, c) implementation of 7th Pay Commission recommendations by states and d) prospects of a sharper rise in service sector inflation. If the states implement 7th Pay Commission suggestions with the same intensity as the Centre, CPI might increase by 100bps in 18-24 months. We believe inflation in Q4FY18 is likely to average c.4.2-4.6%. The current reading is in sync with RBI’s projection and is likely to refrain it from any further rate cuts.


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