The real story behind the Indian inflation number
Every story has an obvious plot and a sub-plot that is not too obvious. The same is the story with WPI inflation also. When the wholesale inflation for the month of May 2022 touched a multi-year high of 15.88%, it raise hackles about the rampant rise in WPI inflation. It is true that the WPI inflation is a direct reflection of the extent of cost inflation that producers and manufacturers are facing in India. That directly impacts the operating margins of these companies and to that extent, WPI inflation becomes a crucial deciding factor for RBI.
There is another angle to the WPI inflation and that is the extent to which the WPI inflation diverges from the CPI inflation. For example, in the month of May 2022, the CPI inflation actually fell from 7.79% to 704% compared to the previous month. However, during the same period, the WPI inflation actually went up from 15.08% to 15.88%. What is the reason for this divergence and why is it that the RBI policy of hiking the rates in May appears to have cooled down the CPI inflation but not the WPI inflation?
One reason is that CPI inflation gives a much higher weightage for food basket while the WPI inflation gives a higher weightage to the manufacturing basket. Secondly, CPI inflation looks at what the consumer experience while the WPI is what the manufacturers experience at the factory gate. Therefore, when there are supply chain constraints like the current situation, you have a dichotomy wherein the CPI inflation could be falling yet the WPI inflation could be rising. WPI inflation is more pronounced when inflation is supply push.
What is behind the Inflation story?
We normally tend to look at inflation as a consolidated figure but in reality it is a lot more nuanced than that. Here is why there is a sub-plot behind what we all see as the WPI or CPI inflation numbers.
• Let us look at the story behind CPI inflation first. For FY23, the expected CPI inflation is 6.3%; or 240 bps more than the 3-year average of the pre-pandemic period. However, the repo rate is 50 bps lower than the repo average for 3 months. That means, despite rate hikes by the RBI, the real rates are still negative.
• The overall inflation is an average and does not reflect the choice of customers. Take this example. Most consumers don’t have the choice to curtail spending since price rise is mostly in necessities. For instance, the food inflation rose at an average rate of 7.3%, while cost of cooking gas shot up 15%. These matter more than the average figure.
• Today necessities are not just about food, clothing and shelter but also include spending on healthcare, transportation and education. If you add these six items up, they take up nearly 70% of consumer spending and this category of inevitable spends was up 8% in April 2022 compared to just 5.5% in December 2021. That is the sub-text.
• There is a dual hit for the manufacturers. For instance, WPI inflation is taken as the producer price index and used to hike prices. That is what cement and FMCG companies are doing and that is leading to higher costs even when not justified. In some cases, it is also leading to reduced volumes of consumption.
• On the other hand, a bigger chunk of the input cost increases is being borne by the producers and wholesalers than by the consumers as there is too much risk in allowing fall in volumes at the consumption level.
• Finally, remember that nearly half of all consumer spending is on services wherein the rate of inflation at 5% has stayed lower than the goods inflation at 8%. This is again not reflected if you just look purely at the inflation numbers.
The moral of the story is that there is a sub-text to inflation beyond the headline numbers; both in the case of CPI and WPI inflation.
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