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India's factory output rebounds, tight policy hurting

NEW DELHI - India's factory output growth picked up in June compared with the previous month and beat market expectations, but analysts said the data showed that tight monetary policy and higher costs were taking their toll.

Data released on Tuesday showed industrial production INIPECI in June rose 5.4 percent from a year earlier, beating a forecast of 5.0 percent in a Reuters poll of economists and accelerating from an upwardly revised 4.1 percent increase in May.

"The number has come in higher than our expectation, but the trend is clearly weakening as a result of higher interest rates, rising input costs and slowing global demand," said Sonal Varma, an economist at Lehman Brothers in Mumbai.

The Reserve Bank of India last month raised both its key lending rate and banks' reserve requirements by 50 basis points, battling inflation running at 13-year highs.

Analysts said the double strike indicated the central bank was prepared to sacrifice some growth for tamer prices ahead of a general election due by May 2009.

Earlier on Tuesday, government figures showed infrastructure sector ININFRECI output grew in June 3.4 percent from a year earlier, a notch below May's 3.5 percent. The sector accounts for nearly 27 percent of industrial output.

Financial markets showed little reaction to the production data with the 10-year benchmark bond yield IN082418GCC edging down to 8.89 percent from 8.91 percent. The rupee crept up to 42.35 per dollar from 42.40 INRIN earlier.

Central banks in Indonesia and South Korea have joined their counterparts in Asia this month in raising policy rates to rein in soaring prices of fuel and goods.

India's economy grew about 9.0 percent in the fiscal year which ended in March, and the central bank last month cut its growth forecast for 2008/09 to 8.0 percent from the earlier 8.0-8.5 percent.

Industrial output growth has slowed from the double-digit rates seen in early 2007.

More tightening to come?

"The June data suggests weaker industrial production has set in," Goldman Sachs economists wrote in a note.

"However, with inflation remaining well above the RBI's (Reserve Bank of India) target range, we continue to expect one more round of rate increases of 25 basis points on the repo rate and 25 basis points on the cash reserve ratio by end-October," they said.

But others said with oil and other commodity prices off their dizzying highs policymakers could recalibrate their approach.

"If inflation risks abate a bit, growth will have an impact on monetary policy," said Abheek Barua, chief economist at HDFC Bank in New Delhi.

Industrial output, geared mostly to the domestic market, is a key gauge of local demand. It accounts for about a fifth of gross domestic product.

Tuesday's data showed manufacturing production INMFGECI rose in June 5.9 percent from a year earlier, compared with an upwardly revised 4.2 percent rise in May.

Consumer goods production rose 10 percent in June from a year earlier while capital goods, a key gauge of industrial activity, rose 5.6 percent.