>WPI IN NEGATIVE TERRITORY (MORGAN STANLEY)

WHOLESALE PRICE INDEX(WPI) IN NEGATIVE TERRITORY

• WPI declines YoY during the week ended June 6: The Wholesale Price Index (WPI) declined 1.61%YoY during the week ended June 6, 2009 compared to +0.13% during the week ended May 30 and +0.48% during the week ended May 23, 2009. Indeed, this is the first time since December,1978 that WPI is in negative territory. This decline in WPI to - 1.61% during the week ended June 6 was below market consensus (as per Bloomberg survey) of -1.52%.

• The sub-zero WPI mainly on high base effect: As we have been highlighting, the decline in WPI this week has been mainly on account of high base effect. Inflation accelerated to 11.66%YoY during the corresponding week last year on pass through of fuel prices by the government and high commodity prices. See Table on next page for the key contributors to this decline in inflation.

• WPI/PPI decline YoY – A global phenomenon: WPI is primarily reflecting the industrial intermediary product prices, which are highly influenced by international prices. Like India, all the major countries in the world are witnessing a deflation in Producers Price Index (PPI), which is similar to India’s WPI. PPI for US, China and Japan declined sharply to -13.4%, -14.2%, -5.4%YoY respectively in May 2009.

• WPI to decline YoY during June-October 2009: We expect the WPI to decline on YoY basis during June-October 2009 on high base effect and slow domestic demand, before recovering to 6.5-7% by end-March 2010.

• CPI inflation to decelerate too: Currently, CPI-IW for April 2009 (the last data point available) is 8.7%YoY. We believe that CPI-Industrial Workers will follow the trend of WPI deceleration with a lag. However, we do not expect CPI deflation in 2009. The weights of CPI components are very different compared to the WPI. The most important differentiating factor is a weighting of food products. While in WPI, food products have a weight of 15.4%, in the case of the CPI it is 46.2%. In our view, food products prices are unlikely to decline YoY.

• No policy rate cuts going forward: We believe the RBI is unlikely to cut policy rates going forward. We expect the RBI to start increasing policy rates from the March 2010 quarter and expect the repo rate to increase to 6.25% by December 2010 from 4.75% currently.

To see full report: WPI