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Why Is Inflation Vanishing In India? Research Team | Posted On Wednesday, June 21,2017, 04:17 PM

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Why Is Inflation Vanishing In India?



What was the price of rice, milk, fruits, vegetables, juices cakes, clothes, fuel  and electronic items a year ago? Is it the same today? Has not the price increased? Everything you buy is so costly. Things are getting unaffordable. You can lay the blame on the dreaded word "Inflation". Yes, the rise in prices of goods and services with time is inflation.

Inflation in India is measured using CPI (Consumer Price Index) and WPI (Wholesale Price Index). CPI measures retail inflation which is the increase in prices of certain products or commodities compared to a base price. Retail inflation = Food, Fuel, Housing, Clothing, Footwear, Education, Household items, Medical, Transport, Personal Care and Recreation. Pretty much all the items and services you use in day to day life.

So what is the Wholesale Price Index? Wholesale Price Index or WPI looks at the change in wholesale prices. WPI measures the price changes of food articles and non food articles like cooking oil, cotton, jute and minerals. It also measures price changes of electricity, mineral oils coal,  kerosene, diesel, liquefied petroleum gas and petrol. The biggest component of WPI are manufactured goods.

If you look closely at inflation you will find something very strange. About 4 years ago inflation was close to 11%. Today it is just over 2%. Yes, you heard me right. Take a look at the CPI for May. It fell to 2.18% from 2.99% in April. WPI for May stood at 2.17%.

Two questions must be running through your mind.

1. Why has inflation fallen so low?

2. Why don't you feel the effects of this fall in inflation?

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Why inflation is vanishing  in India?

1. Crude Oil prices are falling

The price of crude oil is falling. It is close to $50 per Barrel. Just 3 years back the price of crude oil was closer to $90 per Barrel. India imports around 70-75% of its total crude oil consumption. This is a very large import and any fall in crude oil prices helps the Government save a lot of money. Many macro experts say that a $10/barrel dip in crude oil prices helps reduce India’s retail inflation by 20bps.

Don't you think India would save a lot on its crude import bill if crude oil prices fall which would bring down inflation in the country?

2. Rupee rises against the Dollar making imports cheap

The Indian rupee has appreciated/risen by more than 5% against the US Dollar in the past one year. Now, India is a country which imports a lot of goods from other countries. A rising rupee is good for India as imports (denominated in dollars) become cheaper. A rising rupee will result in lower crude oil prices keeping both wholesale and retail inflation under check in the near future.

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3. Food Prices are falling

A fall in prices of vegetables and pulses is contributing big time to a drop in inflation. The prices of potatoes, a high calorie vegetable and the favorite of many of our citizens has fallen by as much as 44%. The prices of vegetables and pulses have fallen by around 18%. Wholesale prices of onions has also fallen sharply.This is great news for the Indian middle class which loves their potatoes and onions. Just 4 years ago prices of onions in some parts of India was as high as INR 100 a kilo.

Could the fall in the prices of onions, potatoes and pulses be contributing to a dip in inflation?  

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4. Change in the base year

Both the CPI and WPI have a common base year of 2011-2012. The Government has changed the base year of WPI from 2004-05 to 2011-12. This move is expected to reduce volatility in wholesale prices. A base year closer to the current year is a more accurate way to measure inflation.

Don't you think the change in the base year of WPI from 2004-05 to 2011-12 will better reflect changes in prices?

Why don't you feel the effects of this fall in inflation?

1. CPI does not represent all States equally

If you reside in Jammu Kashmir, Delhi or Himachal Pradesh you will not believe the inflation numbers. A CPI of 2.18% in May? Just not possible. Things are costlier than ever.

You are right. The All-India CPI Combined is compiled by collecting data at the town and village level on the prices of goods and services across States and then aggregating them. All States and Union Territories do not get an equal weighting in the All-India CPI Combined.

States like Maharashtra, Tamil Nadu and UP are given a higher weighting in the All-India CPI Combined compared to J&K and Sikkim and even a small change in prices in these States can swing the index.

2. CPI is biased towards products rather than services

Many of the households in India belong to the lower income category. If you fall in the lower income category you will spend more money on products rather than services. If you live in a city you will spend more money on services. The prices of services rise much faster than products and if you are from an affluent household you will spend more on services. CPI General Index focuses more on products rather than services. Prices of services are rising and the pinch you feel is not captured by this index.

Do you think a fall in inflation is good? Just ask the poor farmer who is dumping milk, potatoes and vegetables on the roads. Farmers are out on the streets in protest. In Haryana potatoes were selling at Re 1 a kilo. The farmer spends Rs 3 to grow a kilo of potatoes. Farmers are demanding a higher crop support price and loan waivers. Clearly everyone is not happy with the fall in inflation.

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