by Inflation is the rate at which the general level of prices for goods and services rises, leading to a fall in the purchasing power of money. Central banks, like the Reserve Bank of India (RBI), monitor inflation rates to make decisions about monetary policy. The two most commonly used indices to measure inflation are the Wholesale Price Index (WPI) and the Consumer Price Index (CPI).
Wholesale Price Index (WPI)
The Wholesale Price Index (WPI) measures the average change in the prices of goods sold and traded in bulk between producers and commercial wholesalers. It is primarily used to monitor price changes at the wholesale level before they reach the consumer.
- Composition:
WPI includes a wide variety of goods such as primary articles (like food and raw materials), fuel and power, and manufactured products. It represents the prices at which producers sell goods to wholesalers and is a crucial indicator for assessing inflationary pressures in the production and supply chain.
- Usage:
WPI is mainly used by policymakers to gauge inflation at the producer level. It reflects changes in production prices, which eventually trickle down to consumers. The WPI gives an early indication of inflation trends before they impact the consumer directly.
- Limitations:
WPI does not include services or the prices paid by consumers directly. It primarily covers goods and raw materials, meaning it does not give a full picture of inflation in the economy, which also includes services such as healthcare, education, and entertainment.
Consumer Price Index (CPI)
The Consumer Price Index (CPI) measures the change in the price level of a fixed basket of goods and services that a typical household purchases. It is the most widely used index to track inflation as it reflects the cost of living for consumers.
- Composition:
CPI includes various categories, such as food and beverages, clothing and footwear, housing, education, healthcare, and transportation. The weightage of each category varies depending on the consumption patterns of the target population. For example, food and beverages generally account for a large share of the CPI basket, especially in developing countries like India.
- Usage:
CPI is an important indicator for assessing how the cost of living is changing for consumers. Central banks, such as the RBI, often use CPI-based inflation rates to set monetary policy. CPI is also used for adjusting wages, pensions, and social security benefits to maintain purchasing power.
- Limitations:
CPI may not always reflect the inflation experienced by every individual, as it uses an average consumption basket. Changes in consumption patterns or regional price variations may not be fully captured in the index. Also, the CPI does not consider changes in the quality of goods and services.
Comparison Between WPI and CPI:
- Coverage:
WPI covers wholesale goods, while CPI covers goods and services purchased by consumers. Therefore, CPI provides a better measure of inflation’s direct impact on households.
- Method of Calculation:
WPI is based on a fixed basket of goods sold in bulk, while CPI is calculated based on a fixed consumption basket of goods and services consumed by households. The CPI thus accounts for a more comprehensive range of items that affect a household’s budget.
- Focus:
WPI reflects price changes in the early stages of production and is more closely linked to changes in production costs, whereas CPI reflects the final prices paid by consumers for goods and services.
- Timeliness:
WPI is generally more responsive to short-term price fluctuations as it tracks goods sold in bulk at the wholesale level. In contrast, CPI can be slower to react as it involves a broader range of consumer goods and services.
- Inflationary Impact:
WPI primarily reflects inflationary pressures at the production level, while CPI reflects inflation’s impact on household budgets and the overall cost of living. For instance, a rise in WPI can indicate an impending rise in CPI, as higher production costs are passed on to consumers.
Other Key Inflation Indices:
In addition to WPI and CPI, there are other inflation indices used to measure specific aspects of the economy:
- Core Inflation:
This measure excludes volatile items such as food and energy prices, providing a clearer picture of long-term inflation trends.
- GDP Deflator:
GDP deflator measures the price changes for all goods and services included in a country’s Gross Domestic Product (GDP). It includes both consumer and capital goods.
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Producer Price Index (PPI):
Similar to WPI, PPI measures the average change in prices received by domestic producers for their output, giving insight into inflationary pressures from the production side.
