The textbooks define Inflation as a situation where too much money chases too few goods i.e. the purchasing power of money has decreased. Actually, only an increase in the general price level for a considerable period of time is called as Inflation in Economics. The 2 major causes are Demand pull factors and Cost push factors. The present reason for inflation to increase is owing to the increase in the global prices of oil which comes under cost push factors.
What is the WPI?
Wholesale price index or WPI is the measure for inflation in India. The government comes out with WPI inflation figures every Friday. The WPI presently consists of 435 items and it is dominated by manufactured goods which make up 63.75% of the index.
In 2005-06 inflation has been experiencing a free fall in spite of escalating crude prices.
Currently the inflation rate is about 4.6% which is clearly undervalued as when compared to the increases in the prices of goods and services. The prices of pulses, transportation has all increased considerably but the WPI does not seem affected much.
Components of WPI
In the computation of WPI, the 3 major variables are Primary articles (weight 22.0), Fuel, power, light and lubricants (weight 14.2) and manufactured products (weight 63.7). Manufactured products have always enjoyed more weight in the calculation of WPI.
Cause of worry
One reason is that, the prices of commodities are increasing due to the increased costs, mainly in transportation. But there has been no corresponding increase in wages. The people who are poor will find it difficult to live as they were living before the price hike.
The second is that, the retailers take advantage of this situation by hoarding up commodities, further fuelling inflation. And the third reason is that, services do not form a part of the WPI though its share in the GDP is 52%. Surprisingly, the WPI inflation rates are just hovering between 4.5% and 5%, which tells us not to worry. History has told us to take inflation rates seriously only if the rate crosses 8%.
The government has decided to reduce customs duties on imports of wheat and sugar in order to increase the domestic supply. The government wants to reduce inflationary pressures by mopping up the excess demand in the economy.
Like mentioned in the beginning of this article, the current cause of inflation is an increase in the global oil prices which is a cost push factor. How can the government be so blind in not seeing this? Instead it has gone to the extent of giving duty free imports to reduce excess demand in the economy, when there has been no excess demand!
The immediate step to take will be the reconstruction of the WPI so that it indicates the genuine level of inflation. Like our outdated poverty line, which tells that only about 26% of the Indian population is poor, the current WPI is also outdated.