Three sets of data — January’s industrial production, February’s retail inflation and the performance of mutual funds in February — present a contrast between India’s real economy and the financial markets, that is both concerning and heartening. In the real economy, February’s 3.61% retail inflation is a seven-month low aided by a steady and welcome fall in food inflation, which had reached a 15-month high of 10.87% last October. February’s food inflation, which is a barometer of people’s spending on monthly groceries, fell to an almost two-year low of 3.75%. This would come as a relief to India’s policymakers who had hoped for a spike in consumption demand to buttress the government’s full year GDP growth target of 6.5% for the 2025 financial year. February’s 3.61% retail inflation is also well within the Reserve Bank of India’s (RBI) medium-term 4% inflation target, signalling a probable, albeit much-needed, repo rate cut at a time when there has been a liquidity squeeze in the domestic financial system due to the worrisome flight of foreign investors as they hedge against a depreciating rupee, the U.S.’s proposed tariffs-induced inflation and global uncertainties.
The RBI’s February 7 0.25 basis point repo rate cut, from 6.50% to 6.25%, after a gap of five years, signalled the central bank’s intent to raise capital flows in the real economy, to spur economic activity while continuing to focus on inflation moderation. Amid the ₹1.7 trillion liquidity squeeze in the banking system due to the flight of foreign portfolio and institutional investors, the RBI conducted two tranches of dollar/rupee swap auctions, with another one slated for later this month. This is expected to inject over ₹2 trillion into the banking system to address long-term liquidity concerns. Despite such concerns in the financial system, January’s industrial production print at an eight-month high of 5%, up from December’s 3.55%, is another indicator of the resilience in the real economy, as growth was led by an increase in the output of primary, intermediate, and infrastructure and construction goods. Meanwhile, the panic among retail investors was palpable from the February equity mutual funds (MF) reporting numbers. Inflows into MFs plunged 27% with the fourth month of declining stock returns. While the volatility in the financial markets could be worrisome, but temporary, the buoyancy in the real economy makes the hit bearable.