Food prices ease, rate expectations unchanged

A man sleeps on the sacks filled with potatoes inside a lorry at a wholesale market in New Delhi in this December 18, 2009 file photo. Annual food prices eased in early January for the third week running, government data showed on Thursday.

NEW DELHI (Reuters) - Annual food prices eased in early January for the third week running, government data showed on Thursday, but the Reserve Bank of India (RBI) is still expected to tighten monetary policy by increasing cash reserves held at banks at its Jan. 29 policy review.

In a briefing later in the day, the central government said rising prices of some farm commodities such as sugar and pulses were "major areas of concern".

Although a rise in fuel prices runs the risk of offsetting the decline in food prices, the RBI is not expected to raise rates.

Markets have mostly factored in a 50-basis point rise in the cash reserve ratio (CRR), the level of cash banks must keep with the central bank. Analysts expect a rise in key rates as early as March, a Reuters poll showed on Thursday.

"Rate action is warranted only when two conditions are fulfilled. One, when the generalised WPI goes beyond 10 percent. Second, when credit growth picks up substantially," said Rajiv Kumar, an economist New Delhi-based think tank ICRIER.

"As of now, the RBI should signal change in monetary stance by going for a hike in CRR."

The food price index rose 16.81 percent in the 12 months to Jan. 9, lower than an annual rise of 17.28 percent the previous week.

The fuel index rose to an annual 6.43 percent in early January. The index has risen over 9 percent since the end of March 2009, following an upswing in world crude prices amid signs of a global recovery.

"Whether the rise in fuel prices will offset easing food prices is an open question, but there is a risk," said Abheek Barua, chief economist at HDFC Bank in New Delhi.

Food prices have risen on supply shortages after the worst monsoon in nearly four decades, followed by floods in some regions that hit crops. Higher government prices paid to farmers were also a contributory factor.

Last week, the central government ordered the sale of stocked grain and extended duty-free sugar imports by another nine months. Duty-free imports of white sugar were earlier allowed up to March 31, while raw sugar shipments, without any import duty, are already allowed up to Dec. 31.

Prospects of large imports and tight supplies helped white sugar futures in London touch a 29-year peak on Wednesday.

But spot sugar prices fell for the fifth consecutive session on Wednesday as big consumers trimmed buying, hoping prices would fall further.

Trade officials say that relatively lower prices discouraged imports but the country may resort to costly imports at a later date.

Trade and industry sources said the country's sugar stocks on Jan. 1 fell to 5 million tonnes, down 55 percent from a year ago.

The annual wholesale inflation rose to 7.31 percent in December, higher than 4.78 percent in November, on higher food prices, with a government official predicting the headline number to touch double digits by March.

The prices of some essential food items like rice and wheat were up over 12 percent on year in December, while sugar prices rose about 54 percent.

While supply-side bottlenecks have driven inflation to date, demand side factors are beginning to surface.

In late November, cement companies raised prices by between 8 rupees and 10 rupees ($0.17-$0.22) per 50 kg (110 lb) bag, reflecting infrastructure demand. Steel companies are likely to follow suit this month on a revival in demand and a sharp increase in input prices globally.

Although government officials sound concerned about rising inflation, they seem to be wary of any sharp monetary tightening, worried it could choke off economic recovery.

The finance ministry's chief economic advisor was quoted as saying on Tuesday that food prices will cool off in one to two months, leading to a turnaround in inflation, which will render "tampering" with interest rates unnecessary.

(Additional reporting by Mayank Bhardwaj and Abhijit Neogy; Editing by Malini Menon/Ron Askew)