India Inflation Outlook 2024-25: Investment and Market Strategy Implications

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1. The Recent Fall in the Indian Equity Market

Market Performance Overview

Beginning in the second half of September 2024, the Indian share market saw a steep decline, one of the
longest in almost three decades. Both the broad-based NSE Nifty 50 and BSE Sensex saw a decline of
nearly 14% from their respective highs. Mid-cap and small-cap indices also experienced even greater
devastation with declines of more than 20%.

Causes of the Decline

Some interrelated factors have contributed to this market decline:

 Economic Contraction: India's growth rate fell to a four-year low of 6.4% as urban demand fell
and income growth was zero. The slowdown was felt in corporate profits, and investor sentiment
weakened.

 Foreign Investor Exit: Foreign investors sold about $25 billion worth of Indian equities over the
previous nine weeks, attracted by a rally in the US currency and relatively higher returns in
developed markets, weighing on share prices.

 Global Economic Issues: Global trade tensions, apprehension of the downfall of the US
economy, and inflation have fueled market volatility, leading investors to become risk-averse.

 High Valuations: Even post-market correction, equity valuations remain high. The forward PE
ratio of the Nifty 50 sits at about 20, indicating that equities are valued too high in relation to
their earning power.

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Impact on Retail Investors

The downtrend has affected retail investors significantly:

 Wealth Erosion: The meltdown has wiped out around $1 trillion of market capitalization,
leading to huge losses for private investors.

 Lower Consumer Spending: Declines in the stock market have led to lower consumer
spending, particularly on discretionary goods, as investors defer their spending due to their
financial situation.

 Mutual Fund Flows: Equity mutual fund flows fell to a ten-month low, decreasing by 26% from
the previous month to approximately ₹293 billion ($3.4 billion) in February 2025. This shows
that investors are moving towards risk-free investments in times of market volatility.

Sectoral Performance

The recession has impacted various sectors differently:

 Auto Industry: Two-wheeler sales declined 9% in February, reflecting weakened consumer

 Financial Services: The banking sector was under pressure due to slowing credit growth and
expectations of central bank rate cuts, which resulted in easing earnings growth.

 Healthcare: In contrast, healthcare shares have performed better, with restated estimated
earnings per share (EPS) growth. However, valuations in the sector have increased.

Prospects

Experts forecast robust but gradual growth of the Indian stock market:

 Partial Recovery: The Nifty 50 will most probably increase by more than 6% to 24,000 in mid-
2025 and to 25,689 by the end of the year. The BSE Sensex is also expected to increase but not
beyond its all-time high.

 Long-Term Outlook: While short-term problems persist, the long-term growth narrative of India
is robust, driven by the country's demographic dividend, rising urbanization, and increasing
prosperity.

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2. New Trends in Indian Inflation

Analysis of Inflation Rates

Indian retail price inflation, as indicated by the Consumer Price Index (CPI), has fallen significantly in
recent months. The inflation rate on a year-over-year basis dropped to 3.61% in February 2025 from the
previous month's level of 4.26%. This is the first time in six months that inflation has dropped below the
4% target level envisioned by the Reserve Bank of India (RBI) for the medium term.

Causes of the Decline

Several factors have driven this downward trend:

 Vegetable Prices: The most significant contribution to slowing inflation has been a steep decline
in vegetable prices. The arrival of fresh winter vegetables has slowed food price inflation, and
food inflation eased to 3.75% in February, the lowest since May 2023.

 Base Effect: Higher levels of inflation over the same period last year have caused a base effect,
making the inflation rate for the current year appear smaller comparatively.

Core Inflation

Core inflation, after excluding changes in food and energy prices, moderately increased to 4% in
February 2025. This indicates that even though food prices have decreased, prices of other commodities,
such as gold, have experienced increases, driving the rise in core inflation.

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3. Monetary Policy Responses

Recent Rate Cuts

In response to easing inflation, the RBI reduced its benchmark rate for the first time since May 2020 by
25 basis points to 6.25% in February 2025. This aimsto spur economic growth against weakening
momentum.

Future Policy Implications

Although inflation is soft, there is a growing expectation from the RBI to cut rates again in upcoming
meetings to support growth. Economists are anticipating another 50 basis points cut between April and
August 2025.

Balance and Currency Growth

The RBI is being urged to ease monetary policy to spur growth without weakening the currency.
Volatility reduction through interventions has lowered rupee liquidity, which has kept bank lending low.
The rupee is now the weakest among Asian currencies, and there are growing demands for further
weakening.

4. Implications of Financial Markets and Investment Strategies

Equity Markets

The recent drop in interest rates has produced a mixed impact on equity markets. While cheaper
borrowings for companies have generally been favorable to share markets, the current economic
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slowdown and foreign uncertainties have tempered investor sentiments. The real estate and automobile
sectors may benefit from increased consumption demand due to lower borrowing costs.

Fixed Income Markets

Sliding interest rates have fueled a rally in the bond market, as evidenced by declining government bond
yields. As the value appreciates, fixed-income instruments become an attractive option for investors
seeking assured returns.

Currency Markets

The devaluation of the rupee is inflationary and detrimental to importers, as it increases import prices.
The RBI's actions aim to control excess speculation in the markets and introduce currency stability,
which is necessary for foreign trade and capital markets.

Investment Strategies

Given the current state of the economy, investors might consider the following alternatives:

 Diversification: Distributing investments across various asset classes can reduce risks associated
with market volatility.

 Invest in Defensive Sectors: Investing in industries that are less sensitive to economic cycles,
such as consumer staples and healthcare, can help provide stability.

 Fixed Income Securities: During periods of falling interest rates, high-grade bonds can provide
reasonable risk-adjusted returns.

 Currency Hedging: For foreign currency-exposed investments, employing hedging techniques

5. Impact of Geopolitical Developments on Indian Financial Markets and Inflation

Trade Tensions and Tariff Policies

The global trading environment has been impacted by rising tensions and protectionism. The Trump
administration, early in 2025, imposed additional tariffs on several countries, including India, to achieve
trade equilibrium and protect domestic industries. This has increased costs for Indian exports,
particularly from industries like steel and aluminum, jeopardizing their competitiveness abroad.

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In response, India is rethinking its trade policy and negotiating to reduce the adverse impact of such
tariffs. The government is weighing new exporter incentives to protect domestic industry and maintain
export competitiveness amidst global trade uncertainty.

Geopolitical Tensions and Supply Chain Disruptions

Protracted geopolitical tensions, such as the Russia-Ukraine conflict and heightened tensions in the
Middle East, have led to unprecedented economic instability across the world. These tensions have
resulted in supply chain disruptions, leading to primary commodity shortages and higher transport costs.
For India, which imports primary commodities like crude oil and natural gas, these disruptions have
raised input costs for industries, putting upward pressure on inflation.

To develop supply chain resilience, India has partnered with Japan and Australia to establish the Supply
Chain Resilience Initiative (SCRI). This trilateral deal aims to diversify supply sources and reduce
reliance on a single market, thereby shielding itself from the threats posed by geopolitical tensions and
providing stability to major imports.

Energy Security and Climate Change Programs

India's energy economy has been threatened by climate policy and geopolitical challenges. The shift
towards renewable sources has been discouraged by the importation of solar energy equipment from
foreign countries, particularly China. India is contesting this by financing domestic manufacturing to
reduce reliance on foreign manufacturers and enhance energy security.

Moreover, extreme weather patterns caused by climate change have significantly affected agricultural
output, leading to food price instability. The RBI is aware that such conditions pose risks to inflation
trajectories, necessitating policies that promote both economic and environmental stability.

Foreign Exchange Volatility

Geopolitical tensions and trade wars have created volatility in foreign exchange markets. The Indian
rupee has fluctuated in response to concerns about potential U.S. tariffs and global economic
slowdowns. The rupee's performance has remained soft even against a weakening U.S. dollar, indicating
risk aversion by investors due to persistent trade tensions.

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To counter exchange rate volatility, the RBI has intervened in the foreign exchange market to stabilize
the rupee and curb sharp depreciation. This intervention is essential for maintaining investor sentiment
and controlling import-led inflation, which can be exacerbated by a weakening rupee.

6. Government Actions and Supply Chain Disruptions

Global Supply Chain Challenges

The COVID-19 pandemic and subsequent geopolitical tensions have exposed substantial weaknesses in
international supply chains. Disruptions have been precipitated by various factors, including port
closures,

logistical inefficiencies, and labor shortages, which have led to delays and increased costs for companies
around the globe. Such chokepoints have affected the supply of raw materials and components in India,
impacting its manufacturing and export sectors.

6.2 Government Initiatives to Improve Supply Chain Resilience

To address these challenges, the Indian government has introduced several initiatives aimed at building
supply chain resilience:

 Production-Linked Incentive (PLI) Schemes: The government has launched PLI schemes in
various sectors, including electronics, pharmaceuticals, and textiles. These schemes focus on
promoting indigenous manufacturing, reducing dependency on imports, and fostering self-
reliance.

 Infrastructure Development: The government is promoting investment in transport

 Digital Technologies: The promotion of digital technologies, such as blockchain and artificial
intelligence, aims to increase transparency and efficiency in supply chain operations.
Digitalization enables better tracking of products and helps predict potential disruptions.

Encouraging Climate Change Mitigation and Environmental Sustainability

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Recognizing the role of climate change in disrupting supply chains, India is taking proactive steps
toward global climate action. Climate fluctuations have derailed agricultural production and logistics
processes, necessitating sustainable measures. India's adherence to the Paris Agreement and its
initiatives to enhance green energy reflect a commitment to reconciling economic development with
environmental conservation.

Trade Policy Reforms

To mitigate the effects of uncertainties in global trade, India is aggressively promoting trade agreements
and exploring new markets. Export market diversification and lowering tariff barriers are components of
a broader strategy aimed at deeper integration into the global economy. These reforms are intended to
enhance the competitiveness of Indian products and secure guaranteed access to markets amid shifting
geopolitical alignments.

7. Fiscal Policy Actions and Their Impacts

Fiscal Deficit Targets

The Indian government has set a fiscal deficit target of 4.4% of GDP for 2025-26, down from a revised
4.8% for the current year. This aligns with the government's fiscal consolidation policy and aims to
reduce the debt-to-GDP ratio.

Tax Reforms

The 2025 Union Budget proposed significant tax reforms aimed at promoting economic growth:

 Income Tax Relief: The new tax regime raised the threshold for tax-free income from ₹700,000
to ₹1.28 million, with the objective of boosting household consumption, savings, and
investment.

 Goods and Services Tax (GST) Rationalization: The government suggested future reductions
in GST rates and rationalization measures to simplify the tax environment and reduce
compliance costs.

Subsidy Allocations

The government has approved ₹4.57 trillion for fertilizer, food, and rural employment subsidies to
support the rural economy amid global economic uncertainty.

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8. Investment Strategies During Inflation

Diversification by Sectors

Investors must diversify their portfolios across various sectors to minimize risks and maximize returns.
Priority sectors for investment include infrastructure development, strong banking, large-cap stocks, and
the robust IT sector.

Focus on Fixed Income Securities

With declining interest rates, high-quality bonds and fixed-income instruments are likely to provide
reasonable risk-adjusted yields, serving as a cushion during inflationary phases.

Concentrate on Large-Cap Stocks

Investing in large-cap stocks, which tend to be more stable and less vulnerable to economic downturns,
can be a prudent choice for investors seeking consistent growth.

Analysis of Alternative Assets

Investing in alternative asset classes, such as real estate, commodities, or foreign equities, can provide
greater diversification and protection against domestic inflation.

9. Conclusion

India's economic climate in 2025 presents a delicate balance between fiscal discipline, growth
stimulation, and price management. The government's aggressive fiscal policy, characterized by tax
reforms and subsidy allocations, is designed to stimulate the economy amidst global uncertainties.

Investors are advised to adopt diversified strategies, focusing on resilient sectors and fixed-income
securities, to navigate the shifting financial landscape. By being proactive and responsive, investors can
position themselves to capitalize on opportunities while managing risks in this volatile environment.

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References

Stock Market Performance & FII Outflows

1. Reuters: India’s stock market downturn

https://www.reuters.com/world/india/1-trillion-jolt-selloff-indian-stocks-burns-retail-investors-fans-
economic-risks-2025-03-13

2. Reuters: Foreign investor outflows

https://www.reuters.com/world/india/inflows-into-indias-equity-mutual-funds-10-month-low-markets-
stumble-2025-03-12

Inflation Trends & Monetary Policy

3. Reuters: India's retail inflation drops to 3.61%

https://www.reuters.com/world/india/view-indias-february-retail-inflation-eases-361-yy-2025-03-12

4. RBI: Monetary policy decisions

https://www.rbi.org.in/Scripts/BS_PressReleaseDisplay.aspx?prid=55463

5. Reuters: India's central bank rate cuts for the first time in 5 years

https://www.reuters.com/world/india/indias-central-bank-delivers-first-rate-cut-nearly-5-years-2025-02-
07

Sectoral Performance & Economic Growth

6. MoneyControl: Sector-wise stock market impact

https://www.moneycontrol.com/news/business/personal-finance/investment-strategies-for-2025-your-
guide-to-identifying-the-right-investment-themes-12896523.html

7. Financial Express: India’s GDP growth forecast

https://www.financialexpress.com/economy/indias-economic-growth-2025-forecast/

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