Business activity in India declined in March compared to levels in February even as business confidence increased with improvement in macroeconomic conditions, an HSBC report based on its purchase managers' index (PMI) said.
Business activity based on HSBC services PMI declined 47.5 in March, down from 48.5 in February, pointing to a weakening in activity and business flows in March.
However, business confidence improved (66.0 in March vs 63.4 in February) on the back of rising expectations that economic conditions would improve going ahead.
A cooling of inflation, with both input price and prices charged rising at a slower clip has given hopes of an improvement in business expectations.
However, the softening in inflation may not continue as upside risks remain, HSBC said, adding that the RBI will probably remain in a wait-and-see mode for now to monitor the lagged impact from previous tightening of monetary policy.
HSBC's composite output index for services and manufacturing declined to 48.9 in March from 50.3 in February, slipping below the 50-mark.
The index of business in hand, or business outstanding, however, increased to 52.2 in March from 48.2 in February while the index for employment stood higher at 51.2 in March against 50.1 in February.
With the easing of inflation, the index for input prices declined marginally to 53.2 in March from 53.9 in February while the index of prices charged declined to 51.2 in March from 52.0 in February.
Activity in the services sector weakened further due to the difficult economic climate.
Panellists blamed upcoming elections as part of the reason for weaker demand. At the same time, firms have turned more optimistic in the hope that the economy will improve going forward, HSBC said.
Other issues that restrict services sector growth in the near term, include lingering structural constraints and tighter monetary and fiscal policies. Moreover, the high leverage of corporates and deteriorating asset quality in the banking sector is also a constraining factor, it noted.
Panellists also reported an increase in work backlogs, partly due to delays in the receipt of outstanding payments, causing further distress among service sector firms, HSBC said.
While inflation pressures have moderated in services, firms still face significant increases in labour, fuel and raw material costs. Moreover, the outlook for inflation has deteriorated for now, there are still lurking issues like the El Nino effect highlighted by RBI in its latest monetary policy statement.
These include weaker monsoons due to El Nino effects, adjustments in minimum support prices for agricultural products, changes in other administered prices, uncertainty about the fiscal outlook and the potential impact of geopolitical tensions on international commodity prices.
RBI has not yet taken its hands off inflation fighting and a further tightening of monetary policy cannot be ruled out.
The RBI will probably stay put on policy rates for now as it monitors inflation risks.