Inflation is a general and sustained increase in overall price level of goods and services. The inflation rate is a key parameter basis which central government proposes its monetary and fiscal policy from time to time.
The monetary policy primarily focuses on price stability and hence its concern for inflation is rather obvious.
Indicators of Measure of Inflation
Whole-sale price index (WPI) and Consumer price index (CPI) are the two primary measures of inflation. Before, proceeding to know the difference between the two index measures for inflation, let us understand what an index signifies?
An index figure reflects the change in a set of associated variables over a time period and in a particular direction.
Thus, price index is reflective of the total change in price level paid by a producer or consumer.
In the Indian context, 5 national indices are accounted for inflation measure that include WPI and other four CPI indices.
WPI index reflects average price changes of goods that are bought and sold in the wholesale market. WPI in India is published by the Office of Economic Adviser, Ministry of Commerce and Industry.
Further, the data for WPI is monitored and updated on a weekly basis taking into account all the 676 items that form the index.
The various commodities taken into consideration for computing the WPI can be categorized into primary article, fuel and power, and manufactured goods.
Primary articles included for the computation of WPI include food articles, non-food articles and minerals.
In the fuel, power, light and lubricants, electricity, coal mining and mineral oil are included.
The manufactured goods category encompasses food products; beverages, tobacco,and tobacco products; wood and wood products, textiles; paper and paper products; basic metals and alloys; rubber and rubber products and many others.
An, important point to take note of is the whole sale price index (WPI) does not includes the cost of services.
Further, as WPI accounts for changes in general price level of goods at wholesale level, it fails to communicate actual burden borne by the end consumer.
WPI is the primary measure that is used by the Indian central government for ascertaining inflation as WPI in contrast to CPI accounts for changes in price at an early distribution stage.
In contrast, CPI is computed by executing a weighted average on a particular set of goods and services.
The computation of CPI takes into account price changes and the actual inflation that affects the end consumer.
CPI is thus a reflection of changes in the retail prices of specified goods and services over a time period which are traded by particular consumer group.
Does RBI use WPI or CPI Inflation to manage monetary policy?
While earlier the Reserve Bank of India used WPI inflation to manage monetary policy expectations, it is now the CPI inflation which is largely taken into account. The RBI highlights its inflation expectations based on the CPI inflation data that comes in. For example, it sets targets on CPI Inflation and monitors it accordingly.
Many analysts for long had suggested that the RBI should move to the CPI data vs the WPI data, which had now happened in the last couple of years.