Inflation - as well much money chase Too few commodities

People in India whether they are living an lavish life or living in poverty life and no matter what may be the present state of economy is, always bothered about one aspect of economy i.e. the monstrous inflation (Mhengaai).

Even economists and financial experts view Inflation as most elusive and a herculean task to explain. But, the bigger question is, how do common people like you and I get know that there is inflation? 

That’s a rhetorical question and answer is known to all folks. Just take casual stroll to any vegetable market you will get to hear veggie hawkers’ peculiar style of hawking like Aloo le lo ek kilo ka tiss (Rs.30), bhindi ek kilo ka sataar (Rs 70) etc. The moment when you would pass a vegetable shop as a passerby you would hear “bhaiya/bhabiji kuch lena hai, aloo  kitna ka doon”.  

After a short conversation with the shopkeeper one can easily consider the rate of desi inflation. This is the only method calculating inflation for a common citizen of India. In India from rags to riches, all, once in a life have felt the blistering heat of both sun and inflation. Our weather, one of the linchpins of inflation, is either feast or famine.

Let’s get back to the basics and try to understand the technical aspect of a stubborn inflation.

What is inflation?

Inflation is a state of economy in which the general prices of gamut of commodities and services become astronomically high.  one more way we can say that “too much money chasing too few goods”.

At first place, one might wonder what this 7% or 8% inflation is all about but there are a lot of subtleties lie behind this simple figure.  For that matter, WPI and CPI are the two vital factors which play a vital role in entangling this tangled concept. These are called price indices which are prominently used to calculate inflation. Mainly, consumer Price Index is adopted by countries like USA, UK Japan and China and wholesale Price Index is adopted by India.

The RBI focuses on developments in the Wholesale Price Index (WPI). However, the Consumer Price Index (CPI) is referred to when the WPI is not able to reflect the true picture due to high volatility in prices. This multiplicity of inflation indices available in India has often been described as problematical and often argued upon.

WHOLESALE PRICE INDEX (WPI)

Wholesale Price Index is the primary index used by India to calculate inflation .The WPI consists of a basket of 676 commodities (revised from 435 with base year 1993-94) and their price changes are used to calculate the value of the index. The base value of the index is taken to be 100 with base year 2004-05 now the base year has been shifted to 2010-11. The revised WPI numbers have been adopted in September 2010. The percentage change in the value of the index over a specified period reflects the inflation rate.

Calculation of WPI value

WPI is calculated on a base year and WPI for the base year is assumed to be 100. To show the calculation, let us assume the base year to be 2000. The data of wholesale prices of all the 676 commodities in the base year and the time for which WPI is to be calculated is gathered. Then WPI of each commodity is calculated individually whereupon aggregated WPI is calculated to get a single WPI figure. Primarily, three clusters of merchandise are taken into account primary articles viz. food articles, non-food articles etc, then fuel and power and lastly manufactured products.

Let us calculate WPI for the year 2013 for a particular commodity, say rice. Assume that the price for a kilogram of rice in 2000 = Rs. 20 and in 2013 = Rs. 25. Therefore, the WPI for the year 2013 is:-

Since WPI for the base year is assumed as 100, WPI for 2013 will become 100 + 25 = 125. In this way individual WPI values for the remaining 675 commodities are calculated and then the weighted average of individual WPI figures are found out to arrive at the overall Wholesale Price Index. Commodities are given weight age in accordance with their influence on the economy.

Calculation of Inflation

If we have WPI values for two time zones, say beginning and end of the year, the inflation rate for the year will be :- 

For example, WPI on Jan 1, 2013 is 125 and that on Jan 1, 2014 is 133.75 then inflation for the year 2014 would be:-

                                    

Thus, we say that inflation for the year 2014 is 7%. But to get crisp and clear perspective on inflation, In India, WPI is calculated on weekly basis.

Who calculates this WPI? -  NSO, National statistical organization has been entrusted by Govt. of India to calculate WPI i.e., the mulish Inflation.

At present, RBI monetary measures to rein in obstinate inflation explicitly depend on the weekly WPI numbers rather than the CPI statistics as it is calculated on monthly basis. CPI is calculated on consumers’ end; so there is huge variance in data collected under CPI than WPI. In future RBI may take CPI numbers into account to draft its’ monetary policy, only if there is a slender variation in data collected.