RBI Wants a Producers’ Prices Index to Gauge Inflation Better

Says an index to measure the selling price of goods & services will be a more effective policy tool  India's central bank has said that policymakers should develop a producers' prices index, or PPI, which measures the selling price of goods and services to make a better assessment of inflation and, in turn, help monetary policy management. The governor of the Reserve bank of India, Duvvuri Subbarao, while highlighting the flaws in the current wholesale price index, or WPI, which is a more popular measure and interprets inflation, made out a strong case for looking at new measures such as the PPI. "In its present structure, the WPI does not capture the price movement of services... it is a hybrid of consumer and producer price quotes," said Subbarao at a function to mark the sixth National Statistics Day at the RBI headquarters in Mumbai. For instance, the current WPI captures the price of important commodities such as milk from the retail markets, reflecting the price which the final purchaser pays and not the producers' prices or sellers' prices.  While the consumer price index, or CPI, measures price changes from the buyers' perspective or at the retail level, PPI measures price changes from the perspective of the seller. Sellers' and purchasers' prices differ due to government subsidies, sales and excise taxes and distribution costs. For these reasons, it is, therefore, desirable that the country should move towards developing a PPI which measures the average change over time in the sale prices of domestic goods and services.  The Reserve Bank monitors both CPI and WPI to assess inflation, while taking a decision on whether to raise or cut interest rates. However, there are several data gaps in them. "One of the problems we have to contend with in assessing inflation trends is the divergence between WPI and the CPI, which is due to the differences in coverage and weights," said Subbarao. For instance, food has a weight of only 24% in WPI compared to weights in the range of 37-70% in CPI. Metals and a few other bulk commodities, have a weight of 8% in WPI, but are not directly included in the CPI. Besides, services, whose prices have been on the rise, have weights in the range of 12-25% in the CPI, but are not reflected in the WPI. "The difference in weights and coverage and the divergence in price movements not only create a wedge between the different inflation measures but also sometimes move them in opposite directions." he said. Another problem is the measurement and interpretation of core inflation. Core inflation is usually estimated by excluding food and energy prices from the basket of goods and services that represents a household's typical spending. The rationale for exclusion is that the prices of food and energy tend to fluctuate sharply and such volatility from the supply side, if passed on into the general price index, makes it difficult to interpret the overall trend. The surmise is that core inflation, being less volatile, gives a better sense of future price trends.  "Even in advanced economies where food and fuel constitute a relatively small proportion of the consumption basket, the focus on core inflation for policy formulation is being challenged." Subbarao said.     The WPI does      not capture the price movement of services... it is a hybrid of consumer and producer price quotes  DUVVURI SUBBARAO  Governor RBI