Crude Casts Shadow On Inflation, RBI May Raise Interest Rates

What is most worrying for policymakers is a re-escalation of the West Asia crisis, with crude oil prices in the global market again piercing the US$ 100 per barrel mark in early September and firmly remaining above that level. The elevated crude oil price has implications for domestic inflation - disguised taxation that hurts the vulnerable sections the most.

“With the West Asia conflict gaining both depth and breadth, crude oil prices are expected to stay over US$ 100 per barrel in the near future with higher volatility. Imported inflation remained elevated in August 2026, rising 7.75% YoY at the All-India level compared with headline inflation of 4.82%,” said SBI research Ecowrap.

WPI: A Warning For Policymakers

The Wholesale Price Index (WPI) has remained firmly near the double-digit mark in the current financial year beginning April. It was 8.36% in April and thereafter above 9% in the subsequent months in May, June, July, and August. 

According to the latest data released by the government, the WPI in August inched up to 9.92% from 9.78% in July. The fact that it remained perilously close to 10% in four months presents a worrying picture on the price front. With fuel, food, and manufactured products becoming more expensive, inflationary pressure is spreading across the economy. 

What is most alarming is the sharp acceleration in fuel and power inflation, which climbed to 22.93% from 20.05% in July. Petroleum and natural gas prices rose 34.41%, reflecting the impact of higher international energy prices and geopolitical disruptions. For India, which is heavily dependent on imported crude oil, this is serious. Expensive energy raises transportation, manufacturing, and agricultural costs, which will ultimately reach consumers.

Food inflation increased to 7.05% in August from 6.65% a month ago. Higher food prices disproportionately hurt lower-income households. Even for middle-income households, it undermines the benefits of income, growth, and tax relief.

The acceleration in manufactured products inflation, from 8.29% to 8.37%, indicates that the problem is not confined to volatile commodities. Rising input costs reduce corporate margins, particularly for small and medium enterprises that lack the pricing power of large companies. Businesses must either absorb these costs, affecting profitability and investment, or pass them on to consumers, worsening inflation.

Although the higher wholesale inflation does not automatically translate into an equivalent increase in retail prices, persistent increases in energy and manufacturing costs raise the risk of broader price pressures.

“Elevated energy prices invariably find their way into the broader cost structure of the economy. Under conditions of robust demand, producers are increasingly able to pass on higher fuel and input costs to consumers, a trend already evident in near-double-digit wholesale price inflation of 9.9% in August. As a result, core inflation has risen to 4.2% from 3.9% in the previous month,” said Dharmakirti Joshi, Chief Economist, Crisil Ltd.

CPI Inching Towards Upper End 

The Reserve Bank has been mandated by the government to keep retail inflation at 4% with a 2% margin on either side. Inflation management, however, need not come at the cost of growth.

The August inflation data showed that the CPI has accelerated to 4.82% from 4.45% in July, reaching its highest level since the introduction of the new inflation series in January. 

The increase may appear modest, but its implications are significant. Inflation has remained above the Reserve Bank’s mean target of 4% for the third consecutive month.  It was 3.93% in May, 4.38% in June, 4.45% in July, and 4.82% in August. The uptrend has been secular since January.

The biggest concern is the acceleration in food inflation, which rose to 5.95% from 5.52% in July. Rural food inflation stood at 6.13%, compared with 5.64% in urban areas. The figures reveal that rural households are bearing a heavier inflation burden than their urban counterparts.

CPI data points to increases in the prices of essential commodities such as onion, garlic, and ginger. Retail inflation, however, is not confined to food items; price increases were also witnessed in other categories such as clothing, household goods, education, and accommodation.

Core inflation has risen to 4.2% from 3.86% in July, indicating that price pressures are broadening beyond volatile food and fuel components.

“While the uptick was broad-based, driven by 10 of the 12 divisions, the food and beverages, housing, water, electricity, gas and other fuels, and information and communications divisions accounted for a bulk of the 37-basis-point uptick in the headline print in August 2026 relative to July 2026,” said ICRA Chief Economist Aditi Nayar.

Joshi said: “We now expect CPI inflation to average 5.1% this fiscal, compared with 2.0% last fiscal, with the balance of risks tilted to the upside.”

Reserve Bank’s Dilemma

Given the global factors, the impact of El Niño on agriculture, and robust 7.8% growth recorded in the first quarter (April-June), the risk to inflation is on the upside. The impact of the elevated WPI is beginning to be felt on retail prices, and the trend is likely to continue in the coming months. In addition, the flood of NRI funds after the opening of the FCNR(B) special swap window significantly eased the liquidity in the system, giving rise to inflationary expectations. 

Reserve Bank Governor Sanjay Malhotra has gradually reduced the benchmark repo rate from a high of 6.5% to 5.25% in December 2025. He has maintained the status quo since then.

At this juncture, the Reserve Bank faces an uncomfortable policy dilemma. Tightening monetary policy to contain inflation could weaken investment and consumption, while ignoring persistent cost pressures could further fuel inflationary expectations.

“Overall, the CPI print for August 2026 has come in a tad higher than expected,” Nayar said, adding, “If crude oil prices remain elevated in the run up to the upcoming MPC (Monetary Policy Committee) meeting, hinting at an impending upward revision in the Retail Selling Prices (RSP) of petrol and diesel, which could percolate into generalised price pressures, then the expected rate hike could get preponed to October 2026 from December 2026.”

Joshi too expressed a similar opinion, saying the “window for a prolonged wait-and-watch approach (of Reserve Bank) appears to be narrowing, and we expect the next phase of policy tightening to commence soon.”

SBI research Ecowrap said, “We believe CPI inflation may cross 6.5% mark before dropping to less than 6% in early 2027. Time to build moats through a 25-bps hike in October and December MPC each, and then to pause and take stock with upcoming data!”

The Reserve Bank is scheduled to announce the next bi-monthly monetary on October 7.