India wakes up to yet another inflation risk as pressure builds on FMCG margins

In the latest development to pose upside risks to India’s inflation, Indonesia announced a ban on exports of palm oil on Friday in order to ensure adequate supplies in the country.

A subsequent statement from the Indonesian government clarified that only exports of RBD palmolein would be halted, but economists still fear disruptions in India, given the country’s large dependence on imports of the commodity.

RBD palmolein refers to a processed product against crude palm oil.

“Indonesia’s ban on palm oil exports excludes crude palm oil but applies to refined bleached deodorized (RBD) palm olein under the three HS codes. We estimate that these items accounted for ~40% of Indonesia’s total palm oil exports in 2021, with the majority destined for Asia,” economists from Nomura wrote.

“The biggest export markets for Indonesia are China (24.6% of Indonesia’s total RBD palm olein exports), India (8.6%) and the Philippines (4.3%),” the global firm said.

In a separate note, Nomura said that the ban would likely further stoke India’s food and FMCG inflation due to sharp price increases and a shortage of palm oil –the most widely consumed edible oil in India- and its derivatives.

Around 71-72 per cent of India’s total palm oil imports are met from Indonesia, while the fuel makes up 65-67 per cent of the country’s overall edible oil imports by volume annually.

Meanwhile, headline retail inflation in India has displayed an alarmingly upward trajectory over the last couple of months, with the latest reading showing the price gauge at 6.95 per cent, well above the RBI’s comfort band of 2-6 per cent.

“Given the weight of palm oil in the basket, the direct impact is likely to be pretty small – about 10-12 basis points is our estimate. But, palm oil feeds into a bunch of FMCG products from food like biscuits to soaps etc,” HDFC Bank’s Chief Economist Abheek Barua to ETMarkets.com.

“So, I think there would be a second-round impact, which would be across a wider number of commodities in the consumption basket, which is going to be pretty significant.”

As it is, since the outbreak of the pandemic, edible oil prices have been a major driver of inflation in India.

FMCG MARGIN WORRIES

Two derivatives of crude palm oil – palm fatty acid distillate and refined palm oil – are important inputs for a host of consumer products and will see sharp rises in prices, Nomura wrote.

Palm fatty acid distillate is key input for soaps and personal care products such as shampoo and cosmetics, while refined palm oil goes into making biscuits, noodles, snacks and chocolates.

With palm fatty acid distillate accounting for 18-20 per cent of raw material costs for soap makers HUL and Godrej Consumer, Nomura estimates a 10 per cent increase in palm oil prices would need price increases of 2 per cent for soap players to maintain margins.

Nomura has a buy rating on both the companies.

With palm oil prices having surged 40 per cent in FY21 and another 60 per cent in FY22, firms have already passed on 15 per cent worth of price hikes in soaps over the last 17 months.

15-18 per cent of raw material costs for Britannia, 10-12 per cent for Nestle emanate from refined palm oil and a 10 per cent increase in palm oil costs would translate into around 3 per cent for Britannia and 1 per cent for Nestle, Nomura said.

“My sense is that with the last round of price hikes, the companies are facing demand problems if they try to hike further,” HDFC Bank’s Barua said.

“That said, they will try to protect margins by hiking. I don’t want to venture a guess as to what exactly the second-round impact would be but it would certainly be more than the initial 12-15 basis points.”

Nomura is neutral on Britannia and has a buy rating for Nestle.

FASTER RBI RATE HIKES?

With increasing inflation pinching household budgets and posing a risk to growth in the form of erosion in purchasing power, pressure is mounting on the RBI to act soon.

Economists now believe that a rate hike at the central bank’s June policy meeting is a done deal. The only question is the quantum of the hike.

“We are expecting a 25-basis-point of repo rate increase (at the June policy). A risk of a higher rate increase cannot be ruled out, if commodity prices continue to remain elevated or show no signs of coming off,” Anubhuti Sahay, Head of Economic Research, South Asia, Standard Chartered Bank to ETMarkets.

“But we don’t think 50-basis-points of rate hike would be delivered; maybe we could see – under Governor Das, we have seen unconventional sizes of rate actions. Like 35 basis points or 40.”

(Disclaimer: Recommendations, suggestions, views and opinions given by the experts are their own. These do not represent the views of Economic Times)