Inflation based on the Wholesale Price Index (WPI) moderated to a two-year low of 3.85% in February from 4.73% in January, with manufactured products’ inflation cooling from 3% to a little under 2%, and primary articles, food and fuel and power recording milder downturns in the pace of inflation from a month earlier. The base effect also contributed as February 2022 saw a 13.4% pace.
Measurement of Inflation in India
|Criteria||Wholesale Price Index||Consumer Price Index|
|Level||Measures Inflation at Wholesale level||Measures Inflation at Retail Level|
|Who Calculates?||Office of Economic Advisor, Ministry of Commerce, and Industry||National Statistical Office, Ministry of Statistics and programme Implementation|
|Categories||Primary Articles Manufactured products Fuel and Power||Food and beverages Pan, Tobacco, and Intoxicants Clothing and Footwear Housing Fuel and Light Miscellaneous- Education, Healthcare, Transportation etc.|
|Highest Weightage||Manufactured products||Food and Beverages|
|Impact of increase in Food items||Less impact on WPI as compared to CPI since WPI provides higher weightage to manufactured products and lower weightage to Food items.||Larger impact on CPI as compared to WPI since it gives more weightage to food products.|
|Indirect Taxes Included?||No||Yes|
|Targeted by RBI?||No||Yes. The RBI is required to maintain CPI rate of inflation of 4% with a deviation of 2%.|
Headline and Core Inflation
The headline inflation simply refers to the inflation in the CPI (or WPI) covering all the categories of goods and services. On the other hand, the core inflation excludes the volatile categories such as food and fuel in order to measure the increase in the prices of goods and services. Hence, a drastic fall in the food and fuel prices can bring down the headline inflation by a to a large extent. However, the core inflation may remain unaffected.
Note: Presently, the RBI is targeting the CPI headline rate of inflation (and not Core Inflation)
Base Effect: To calculate the rate of Inflation, the prices of Goods and services in the current month are compared with the prices in the corresponding month of the previous year.
The rate of inflation in the current month is calculated as
(Prices of Goods in Current Month- Prices of Goods in Corresponding month of Previous year)/ Prices of Goods in Corresponding month of Previous year * 100
As can be seen in the above formula, the denominator (base) is the prices of Goods in the corresponding month of previous year. So, the if the denominator (base) value is lower, the rate of inflation in the current year would be higher. Similarly, if the denominator (base) value is higher, the rate of inflation in the current year would be lower. This can be understood as seen below:
Reasons for the rising Inflation in India
- Imported Inflation: Increase in global commodity prices such as Crude oil, Edible oil etc.
- Increase in certain food items such as Egg , Edible oils, Fruits, Pulses.
- Increase in services such as Health, Transport and Communication etc.
- Low Base effect as the prices of some of the Goods had declined last year due to the pandemic.
What to Target: Headline or Core Inflation?
Presently, the RBI targets CPI headline rate of inflation and not the Core Inflation. In this regard, the Economic Survey 2020-21 has highlighted that sole focus on CPI headline rate of Inflation may not be appropriate on account of number of reasons. Accordingly, it has recommended that a greater focus on core inflation is warranted.
Firstly, Headline inflation may take place due to volatility in prices of Crude oil and Food commodities, over which RBI has no control. For example, failure of monsoons, lack of cold chain infrastructure, supply side bottlenecks etc. usually lead to increase in Food prices.
Secondly, most of the time inflation in Food commodities is transitory and may not require any policy action by the RBI
Thirdly, if the RBI tries to control inflation due to volatility in prices of food commodities, it can prove to be counter productive. For example, to control inflation, rate of interest would increase–> Decline in Investment and Consumption Expenditure–> Economic Slowdown.
Fourthly, to measure inflation correctly, weightage must be assigned to different categories of commodities depending upon their share in the household expenditure. Higher the share, higher should be weightage. The share of food commodities in the household expenditure has declined since 2011-12, yet the CPI gives a weightage of almost 45% to the food commodities.