Inflation Dilemma: Should We Rethink How We Measure It?
Introduction
Price rises are a constant part of our lives. It's not just a problem for consumers; it's a challenge for the Reserve Bank of India (RBI) and the government too. The term we hear often is "inflation," and despite their efforts, controlling it has proven to be a tough nut to crack. So, what's the proposed solution? Some analysts are suggesting we remove food from the inflation equation entirely. Sounds wild? Let’s dive deeper into this idea.
Understanding Inflation
Inflation is typically divided into two main components:
Together, these components make up the headline inflation, also known as the Consumer Price Index (CPI). Since 2016, the RBI and the government have aimed to keep inflation at 4%, with a tolerance range of 2% above or below this target. However, hitting this target has been elusive, especially due to the volatility of food prices.
The Role of Food in Inflation
Food prices have been the main culprit behind inflation remaining stubbornly above the target. Unlike demand-pull inflation, where prices rise because of high demand, food prices have been driven by cost-push inflation. Factors like erratic weather and supply chain disruptions have made essentials like onions, tomatoes, and potatoes more expensive. And because these are necessities, people continue to buy them despite rising prices.
If we exclude food from the inflation calculation, the RBI's efforts look much better. Core inflation, for instance, dropped to 4.3% in FY24, a four-year low. However, despite this success, the RBI has been unable to lower interest rates, which would otherwise help boost the economy. The fear is that lowering rates might lead to increased spending, further pushing up prices—especially with food prices already high.
Should Food Be Removed from the CPI?
Some analysts argue that removing food from the inflation targeting framework could provide a clearer picture of the economy's health. But this suggestion raises valid concerns. After all, food constitutes a significant portion of household spending—about 46% in rural areas and 40% in urban areas, according to the latest Household Consumption Expenditure Survey.
The CPI itself is somewhat outdated. It still includes items like horse cart fares and video cassette recorders—things that are no longer relevant. The weight assigned to food in the CPI has been the same for over a decade, based on older spending patterns. Perhaps instead of removing food entirely, it would be more effective to update the weight assigned to it in the CPI calculation.
Conclusion
The debate over whether to remove food from the inflation equation is complex. While it might help the RBI in its inflation targeting, it won't necessarily make our groceries cheaper. Even the RBI governor has expressed caution about excluding food entirely from the CPI. However, updating the weights and the CPI basket to reflect current consumption patterns could give us a more accurate picture of inflation. Whatever the decision, it's clear that controlling inflation remains a delicate balancing act for policymakers.