Our inflation index lens is hazy but clear enough

Source– The post is based on the article “Our inflation index lens is hazy but clear enough” published in the “mint” on 14th September 2023.

Syllabus: GS3- Indian economy

News– In the latest official release for August, it was reported that inflation had eased to 6.8% year-on-year from the previous 15-month high of 7.4% in July.

Why are doubts being raised on accuracy of CPI data?

The basket of goods and services monitored by the CPI has not been refreshed in approximately a decade. But, our consumption habits may have evolved.

India is primarily a nation with modest means. Food items make up a substantial portion of the basket. When combined with beverages and tobacco, food items constitute nearly half of the index.

The rest is composed of categories like clothing and footwear, fuel and lighting, housing, and miscellaneous items.

A general formula that was appropriate a decade ago, based on India’s consumption expenditure survey of 2011-12, may no longer be as accurate.

In emerging economies, as incomes rise, the proportion of food expenses in monthly budgets usually decreases, while other expenditures increase. Today, even low-income earners are known to pay telecom bills.

As the last major consumption survey conducted in 2017-18 was discarded by the government due to discrepancies. There is a lack of a clear understanding of consumption patterns for revising the CPI basket.

Why is CPI index still relevant for showing inflation trends?

CPI data may not depict a clear picture of inflation scenario. But, it does not diminish its usefulness. An updated index may not significantly alter inflation readings.

The inflation index doesn’t need to reflect absolute truth as an indicator of trends. What matters is not the clarity of the picture but the direction and pace of its change.

As long as a central bank can grasp price fluctuations and stabilizations, there is no need to doubt CPI index.