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Inflation: Numbers don't tell the real story - Views on News from Equitymaster

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Inflation: Numbers don't tell the real story
Dec 29, 2010

Inflation is one of the most feared roadblocks to India's economic growth. It has always kept the RBI on its toes. The central bank came up with a string of policy rate hikes through 2010 to bring the inflation number back to single digit. Now that inflation has shown signs of subsiding, the RBI has kept the policy rates on hold. Buoyed by its partial success, it expects a GDP growth of 9% to 10%, supported by 5.5% inflation by March 2011.

With so much buzz around inflation, let's dwell on it a little more. Broadly, there are two most commonly used measures of inflation - rate of change of WPI and CPI. WPI (Wholesale Price index) measures rates of goods that take place in the wholesale market over a period of time. On the other hand, CPI (Consumer Price index), also known as cost of living index, is a measure of prices of goods and services at the consumers' level. While most countries use CPI to measure inflation, India remains obsessed with WPI. This fails to capture the consumption pattern of consumers which should ideally be the factor to formulate monetary policies.

Now the most shocking fact: Service sector, which makes more than 60% of Indian economy, finds no place in WPI. Also, while food comprises 48% to 69% of CPI basket, it weighs hardly 30% in WPI basket. Such issues with WPI bring the efficacy of monetary policies under question.

The reasons cited for choosing WPI over CPI are lack of timeliness of CPI data and four different measures of CPI. As far as former is concerned, the decision to revise frequency of WPI to monthly from weekly brings both CPI and WPI at par. In any case, with a faster frequency, the final WPI data used to be way off the provisional numbers that led to unwarranted policy decisions. The latter can be taken care of with correct index weightings and constituents. Besides changing frequency, the government has switched from a base year of 1993-94 to 2004-05 for WPI which is a welcome move. Earlier, the basket had 435 goods of which 100 were deemed irrelevant from consumers' point of view. Instead of cutting that down, we have 676 goods now. Let's hope we don't lose the bigger picture with the data deluge.


Another point that deserves attention is that most of the focus remains on year on year change. While it does suggest direction of prices, we believe that policies will be more effective if we use seasonally adjusted point to point data instead. This will make sure that high or low base effect of previous year doesn't cloud the current state of affairs, especially during economic cycle turns. Such a shift will also be good for a feedback of the policy undertaken.

Hopefully, the day will come soon when Government will take care of the real issues in inflation measurment. Till then, we have no option but to carry the burden of legacy and wait for next round of policy decisions.

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2 Responses to "Inflation: Numbers don't tell the real story"

Mohan Singh

Feb 1, 2011

Corruption is more worrying. Inflation is one of the manifestations of corruption. IAS babus and politicians are siphoning of the development funds creating bottlenecks in the production and distribution of agriculture products and commodities. Because of immense corruption above mentioned people are flush with funds and spent carelessly thereby further increasing the prices. Again due to corrupt system in the government food materials and raw materials are allowed to be exported by providing export subsidies to favor a few exporters. If corrupt politicians and IAS babus are tackled inflation will come down automatically. Immediate ban on export of food material is warranted. If PM has some concern for the poor he should immediately order for the withdrawal of all export subsidies on food materials. You cannot expect this action from corrupt FM or his IAS cronies

Like (2)

kailash chogle

Jan 31, 2011

What I feel may be wrong as I am expert in Economics but I fell Corruption is main caused beyond the Inflation , as most of sectors prises are raising is due to BLACK MAILERS SYNDICATES which are involved in raising prises of comodity , as most of these blackmailers are either politiceans or the person who has either direct support of political OR has support of Burocrates , since in India you cannot achived anything without Political support or nexus with Burocrats.

This is my eprsonal view may be I am wrong !!

Like (1)
  
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