In recent years, the country had witnessed declining inflation, stable rupee, and improving fiscal and external deficits, while external risks have been high during this period, with weak export demand, concerns about Fed, China, EU, UK referendum. Photograph: (Getty)
Water shortage due to low monsoons could hamper growth and push inflation. Domestic factors may become noisy as well, says report
Indian economy, which has enjoyed a "macro-sweet" spot in recent years, is expected to see increasing external and internal uncertainties, says a Deutsche Bank report.
According to the global financial services major, while the medium term outlook of the economy remains constructive, latest data releases are "somewhat disappointing".
In recent years, the country had witnessed declining inflation, stable Rupee, and improving fiscal and external deficits, while external risks have been high during this period, with weak export demand, concerns about Fed, China, EU, UK referendum and regional geopolitics.
"There clearly won't be any respite from external risks this year, but we reckon that the some domestic factors are about to turn noisy as well," the report noted.
Regarding monsoon, it said monsoon rains are 25 per cent below normal as of mid-June. "If the water shortage situation persists, it could hamper growth, push up inflation, and exacerbate the fiscal position," it added.
Additional risk would be around Reserve bank of India's governor Raghuram Rajan's second term renewal. "If Rajan's term is not renewed or the governor himself decides not to continue, this could affect investor sentiments and lead to volatility in financial markets," the report noted.
According to Deutsche Bank, rising inflationary pressure, in turn would put Reserve Bank, India central bank, in "a difficult spot", as any justification for cutting rates to support growth would be negated by the need to hold rates to meet the central bank's 5 per cent early 2017 Consumer Price Index target.
In its policy review meet on June 7, RBI governor Raghuram Rajan had kept interest rates intact citing rising inflationary pressure, but hinted at a reduction later this year if good monsoon helps ease inflation.
The global brokerage expects WPI inflation to rise to 3.5 to 4.0 per cent by the end of this calendar year.
An additional risk is the potential inflationary impact of pay commission awards, furthermore, global oil prices have bottomed and risen close to $50/bbl currently, it added.
"Monetary policy headroom has clearly reduced post the May inflation data; while inflation trajectory may improve in the coming months due to some course correction in food prices, we see the balance of risks clearly tilted to the upside, which will not allow the central bank to cut the policy rate any further, in our view," the report noted.
"India is likely to have seen the worst as far as growth is concerned, but the pace of recovery will likely continue to be gradual and uneven, given drags from private investment and global risks," the report said.