India's inflation rate shot up to its highest level in more than 16 years this month, increasing the chances of the fourth rise in interest rates in Asia's third-largest economy since June.
The commerce ministry said high prices for food and other essential commodities had driven inflation to 12.63 per cent in the week ending August 9, compared with 12.44 per cent the previous week.
Stocks fell ahead of the announcement amid concern that higher inflation would force the central bank, the Reserve Bank of India, to apply the brakes more firmly on a slowing economy.
The Bombay Stock Exchange's benchmark Sensex index fell 3 per cent to 14,243.73 points.
The gradual climb in inflation towards the 13 per cent mark fits with economists' forecasts. Most believe it will peak at between 13 and 14 per cent in the coming two to three months on the back of high oil, steel, cement and food prices and a low base effect from last year. The trend is alarming the Congress party-led ruling coalition, which must face elections before next May in an electorate that has been hypersensitive to inflation.
The RBI has already expressed concern that in spite of a series of monetary tightening measures, underlying demand in the economy remains strong, putting further potential upwards pressure on prices.
Inflation remains twice the RBI's comfort zone of below 5.5 per cent and is approaching double its target for the end of this fiscal year, next March, of 7 per cent.
Last month, the RBI raised its "repo" lending rate by half a percentage point to a seven-year high of 9 per cent. It also increased the cash reserve ratio, the amount of money banks must keep at the central bank, from 8.75 to 9 per cent.
The drivers behind inflation in the week of August 9 were rising prices for pulses and vegetables, sugar, textiles and cement.
Inflation is expected to get an extra fillip from moves to increase the salaries of 5m central government civil servants by 21 per cent at a cost of $3.6bn (euro 2.4bn, pound 1.9bn) this financial year.
The move is expected to be followed by state governments and state-owned enterprises, providing a stimulus to the economy and making the RBI's inflation task more difficult.
While it is down from its peak growth rates of above 9 per cent, India's economy is still expanding rapidly. An advisory council report to Manmohan Singh, the prime minister, last week forecast the economy would grow 7.7 per cent this financial year.
