No risk of deflation, says Govt.

India's annualized inflation rate has fallen to a historic low level, plunging to 0.44, percent, triggering concerns that the country would soon enter a phase of deflation unless the central bank acts fast to prop up demand and growth.

According to government data released Thursday, the wholesale price index (WPI), India's most widely watched inflation measure, sank to 0.44 percent for the week ended 7 March, 2009, as compared to 2.43 percent for the previous week and 7.78 percent during the corresponding week of the previous year.

The inflation rate had touched a 13-year high of 12.91 percent last August due to global slump and slowdown in domestic demand.

A close look at the latest data reveals that decrease in prices of primary articles and fuel, power, light and lubricants resulted in the sharp fall in inflation rate.

According to a government statement released by the Finance Ministry, this is the steepest drop since November 2008.

"In the last 30 years, there is no record of inflation falling this low since 1977-78," the statement said.

The sharp fall in inflation rate has triggered renewed fears of deflation, prompting market analysts to claim that the latest inflation data would open the way for the Reserve Bank of India (RBI) to cut interest rates further to lower the cost of credit for the corporate sector and push demand.

Deflation is when the inflation rate falls below zero percent, resulting in an increase in the real value of money a negative inflation rate. Inflation reduces real value of money while deflation increases the real value of money.

However, the government believes the chances of India facing deflation are remote.

According to Montek Singh Ahluwalia, deputy chairman of India's Planning Commission, while negative inflation was not ideal from a growth point of view, there would not be sustained deflation.

" We will not have sustained deflation. For one week if it (inflation) goes a little bit below, you can't call that deflation. But it is true that it has gone down sharply and I think it should remain at a low level," Ahluwalia said.

However, "It is a good development," he said of the falling inflation rate. "It gives us reassurance that we can take measures to stimulate the economy."

Agrees Abhijit Sen, noted economist and a member of the Planning Commission. "I don't think we are heading towards deflation. It would be playing up (the issue)... This is not a thing to worry as yet," Sen said.

"Last year around this time, prices started rising sharply. The point simply is, one can't rule out some fall in prices because of decline in commodity prices in the global market," he added.

Suresh Tendulkar, chairman of Prime Minister's Economic Advisory Council, said the sharp fall in inflation is due to base effect and "it may fall in the negative territory in the coming weeks." However, it should not cause any concern as demands are picking up, he said.

Agrees Saumitra Chaudhuri, member of Prime Minister Economic Advisory Council.

"If we look at the three month seasonally adjusted rates, you will find that the pulling down was much more strongly pronounced at the end of December and in January and now it is headed back to zero. So this is not deflation," Sen said.

However, the negative inflation rate probably would hover for some time between the end of March and early June because of base year effects, he said.

According to Arvind Virmani, chief economic advisor in the Finance Ministry, the prices of primary food items are high as there is still a buoyant demand for food in rural India.

"The index for primary food items rose marginally by 0.2 percent. This has, in fact, slowed down the decline in the inflation rate. Primary food (prices) are still rising and it is actually going the other way. It clearly still remains fairly high. Rural areas are still a source of strength as far as demand is concerned," he said.

According to Trade Secretary G.K. Pillai, inflation below 1 percent is not a deflation and the low levels are due to high base effect.

"Inflation is not an issue for the next two to three months," Pillai said.

Concurs Cabinet Secretary, K.M. Chandrasekhar, discounting fears that India risks facing deflation.

"I do not see any signs of deflation right now. Probably, decline in inflation is more due to higher base last year than any significant drop in prices. Demand for certain core sectors like steel, cement and automobiles is picking as also rural demand. In sectors which cater to domestic demand certainly the worst is over. The inflation trend clearly shows that the stimulus packages rolled out by the government are starting to show results," Chandrasekhar said.

However, sectors heavily dependent on overseas demand would take time to pick up, he added.

According to the government official, the sharp decline in inflation rate "could be the result of the high base effect of inflation" which stood at 7.78 percent during the corresponding week of March 2008."

Chandrasekhar said he expected RBI to decide soon "what measures it would want to take" to inject liquidity into the market.

Chandrasekhar also reprimanded the private sector banks for failing to pass on the benefits of lower interest rates to the customers. While the public sector banks have been far more active in the disbursal of credit to industry and consumers, the private banks have been slow in responding to the RBI's monetary moves, he said.

"As such, the prices of food commodities continue to remain on the high side despite the low inflation," said Dalip Kumar, head of projects at the National Council for Applied Economic Research (NCAER).

Agriculture output had declined 0.2 percent in recent months due to various factors, he added.

Pronab Sen, chief statistician, said the cut in policy rates since September 2008 are not translating into lower interest rates because banks' perception of risk for lending to the corporate sector is high because of the global financial crisis and also because of a slowdown in domestic demand.