Lets Understand Inflation

In india the inflation data is released on every thursday. As we have seen that inflation these days is hovering between 0%-1% but then also the prices of lot many goods which are used in our day to day life has not changed. What is the reason for the same?

If the decrese in the inflation is actually not reducing the pressure on the normal man's pocket then what is the fun of giving this inflation data?

Actually there is a reason for this mismatch (decrease in inflation is not reducing the prices of the basic items which are consumed on daily basis). We will discuss and try to understand that actually what is going on?

Before discussing the things further, I just want to introduce basic terms which will be used.

They are

CPI(Consumer Price Index) - This index is based on the prices at the consumer end.

WPI(Wholesale Price Index) - This index is based on the prices at the wholesale market.

In india ,inflation is calculated on the basis of WPI. 

WPI(Wholesale Price Index):

WPI was first published in the year 1902 and it was followed across the globe in calculating the inflation. But in developed countries this WPI was replaced by CPI in the 1970's. But in India we are still following this WPI while calculaing inflation.

This WPI has got a list of 435 commodities whose average price in the wholesale market helps in calculating the inflation.This price index is available on weekly basis.

CPI(Consumer Price Index):

CPI is a statistical time series measure of weighted average of prices of a specified set of goods and services purchased by consumers.

CPI is the official barometer of inflation in many countries like US,UK,Japan,Canada and China.

Drawbacks of WPI:

1.An individual when buys milk,ghee,butter or any other basic thing in day to day life,how many of them actually buy it on wholesale price.It is always the retail price which is to be paid by the consumer.

2.WPI gives weightage of 22% to food articles, 14% to fuel and 64% to Power and Manufactured goods.

3.There are 435 commodities which are analysed to give this inflation data and the last time when this list was reviewed is in 1992.So its already been 17 years and lot many of the commodities which are listed are more or less obsolete.

Advantages of WPI:

1.WPI is calculated on weekly basis and CPI is calculated on monthly basis.

2.The calculation of CPI could prove to be a difficult task as then 100s of cities and 1000s of villages are to be monitored to get the data.

3.There are 4 different types of CPI indices - CPI Industrial workers,CPI Urban Non Manual Employees,CPI Agricultural labourers and CPI Rural Labour. So it may be very tedious and difficult to get data collected.

CPI could be more effective than WPI :

As the set of goods which are refered to in CPI in calculating inflation are very near to the actual spending pattern.In CPI 60% weightage is giving to the food articles and it has also taken into consideration the rent paid ,medical expenses etc.

Today, in the newspaper I read that India is going to follow CPI and they have started collecting data from citites and villages and hopefully from August 2010 we will have inflation based on CPI rather than WPI.

I hope this article is helpful to you all.