[Economy] Index Theory: WPI, CPI, IIP, Components, Baseyear; Core vs Headline inflation, Laspeyre’s formula explained

Economy89 Comments

India Yearbook
  1. Prologue
  2. [Act 1] WHO calculates WPI, CPI, IIP?
  3. [Act 2] WHEN they publish WPI, CPI, IIP?
  4. [Act 3] WHERE do they get data for WPI, CPI, IIP?
    1. WPI Data Collection
    2. CPI Data collection
    3. IIP Data Collection
  5. [Act 4] WHAT are the components of WPI, CPI, IIP?
    1. #1: WPI components of Wholesale price index
      1. What is Headline inflation WPI?
      2. What is Core inflation WPI?
    2. #2: CPI components of Consumer Price Index
      1. What is Headline CPI inflation?
      2. What is Core CPI inflation?
      3. Consumer Food Price Index (CFPI)
    3. #3: IIP: Sectorwise Components?
      1. IIP : Goods-wise Components?
  6. [Act 4] WHY REVISE WPI, CPI, IIP series?
    1. Revision of Wholesale Price Index (WPI)
    2. WPI: New items added:
    3. Saumitra Chaudhuri Committee on WPI
    4. Revision of Consumer price index series (IIP)
    5. Revision of Industrial Index production (IIP)
    6. Comparison: WPI, CPI, IIP
  7. [Act 5] WHY WPI, CPI, IIP important?
  8. [Act 6] Other indexes
    1. Service performance indices (SPI)
    2. Baltic Dry index
    3. Producer Price Index (PPI)
    4. Some more indexes
  9. [Act 7] Laspeyre’s formula

Prologue

Chapter 4: Prices and Monetary Management. Three subparts

  • Monetary management, measures of money supply, Urjit Patel
  • Indexes’ Theory: WPI, CPI, IIP, Services index and others
  • Indexes’ Current: Survey observations on WPI, CPI & IIP, How to combat inflation.

Wait…what happened to remaining chapters?

  • Ch. 8 to 13 published as articles.
  • Chapter 1 to 3; 5 to 7 available as powerpoint and videos. (Will release them as articles after prelims and its “unofficial” answerkey.)

[Act 1] WHO calculates WPI, CPI, IIP?

Compare-WPI CPI IIP

WPI
  • Office of the Economic Adviser
  • In DIPP Department of Industrial Policy and Promotion
  • In Ministry of Commerce & Industry.
CPI
  • Central Statistics Office (CSO)
  • Ministry of Statistics and Programme Implementation (MOSPI)
IIPSame as CPI

[Act 2] WHEN they publish WPI, CPI, IIP?

WPI data publication

Weekly
  • Every Thursday: Primary Articles and Fuel Group
  • If Thursday is holiday then next working day
Monthly
  • 14th of Every month: all commodities
Final
  • Above two are “provisional” because some prices are not available.
  • Final list released two months (~EIGHT weeks). When they get authentic price data for all commodities.

If holiday, then WPI data released next working day.

CPI and IIP: When published?
CPI
  • Monthly basis: for urban, rural, all India.
  • Annual: with lag of one month.
  • State/UT’s separate CPIs released only if they provide 80% of the necessary data.
IIP
  • monthly basis with the time lag of six weeks from the reference month.
  • Although IIP just a short term indicator. The actual result come along with Annual Survey of Industries (ASI).

[Act 3] WHERE do they get data for WPI, CPI, IIP?

So far we know, who makes the index, and when they release it. But WHERE do they get the statistical inputs?

WPI Data Collection

Primary articlesRespective ministries, dept, PSU, State Governments
Fuel and powerSame as above
Manufactured productsLeading manufacturing units
total676 items

Problems in Data collection

  1. Since the collection of prices is on voluntary basis, the flow of price data, especially from manufacturing units, becomes irregular leading to problems in compilation of Wholesale price index.
  2. Economic Adviser has created a webportal, so factory owners can directly supply data. But momentum not picked up yet. Seems they’re too busy changing profile pics on facebook.
  3. Therefore, Economic Advisors has made arrangement with NSSO to collect price data from the manufacturing units, until webportal becomes popular.

CPI Data collection

Who gives data for Consumer price index (CPI)?
Urban areasNSSO officials survey. Data entered into NIC web portal.
Rural areasNSSO officials + Postal Officials (if NSSO can’t reach). Not all villages surveyed, only ~1200 villages.

IIP Data Collection

Who gives data for Index of Industrial production (IIP)?
IIP information Supplier  Items
DIPP: Dept of Industrial Policy & Promotion430
Indian Bureau of Mines61
Iron & Steel Joint Committee47
Chem. & Petrochemicals Dept.47
Textile Commissioner44
Vanaspati Directorate11
Jute Commissioner11
Petroleum ministry11
Railway Board6
Fertilizer Department6
Coal Controller3
Directorate of Sugar1
Salt Commissioner1
Tea Board1
Coffee Board1
Central Electricity Authority (power Min.)1
Total items682

[Act 4] WHAT are the components of WPI, CPI, IIP?

#1: WPI components of Wholesale price index

Components WPI

  • Economic Advisor, Lespeyer’s formula, Base year 2004.
Three categories, in descending order of Weight
WPI componentsweight
Manufactured ProductsInternal weight: Chemical >metal > food64.97
Primary Articlesinternal weight:Food > Nonfood > Mineral20.12
Fuel & Powerinternal weight: Mineral oil > Electricity >Coal14.91
total weight100

These three categories are further subdivided into picture worth 1000 words.

Mindmap Wholesale price index

What is Headline inflation WPI?

  • Number we get from all components viz. primary, fuel and mfg.

What is Core inflation WPI?

  • core means, we should ignore food and fuel part.
  • So, core inflation = Only WPI of Non-food manufacturing industries.
  • Headline WPI – (primary + fuel + food mfg. industries)

#2: CPI components of Consumer Price Index

Components CPI

  • CSO calculates using Lespeyer’s formula, Base year 2010
  • Five category of items. I’ve arranged them in descending order of WEIGHT (Combined All India)
CPI componentsRuralUrbanCombined
Food, beverages, tobacco59.3137.1549.71
Misc.Health edu etc.24.912826.31
HousingNA22.539.77
Fuel, light10.428.49.49
Clothing,bedding,footwear5.363.914.73
Total100100100

Mind it: Rural CPI doesn’t consider Housing inflation.

Mindmap CPI combined

Subcategories Ranking: CPI (Combined)
Rankingwithin that highest weightage given to
food, bev., tobaccoCereal > Milk >Veggies > …..Sugar (lowest)
Fuel and lightno subgroup
clothing, bedding, footware(Clothing-bedding) > Footware
HousingNo subgroup.
Misc.Transport > Medcare > Household requisites>…>Recreation (lowest)

What is Headline CPI inflation?

The number you get from combined data of above categories.

What is Core CPI inflation?

Core CPI =Headline CPI MINUS (food and fuel components.)

Consumer Food Price Index (CFPI)

  • By the same good folks who calculate CPI (=CSO-walla)
  • Using same Laspeyre formula
  • Using same base year: 2010
  • If total weight of CPI = 100, then Food price index = ~52% of its weight

 

Components in descending order
ComponentsRuralUrbanCombined
Cereals and products36.7128.5134.16
Milk and products16.5321.5918.1
Vegetables12.6412.9312.74
Oils and fats8.989.449.13
Egg, fish and meat6.57.386.77
Pulses and products6.256.116.2
Sugar etc.4.644.114.47
Fruits3.656.144.43
Condiments and spices4.13.794
Total100100100

So far we are done with components of WPI, CPI and food inflation. Moving on

#3: IIP: Sectorwise Components?

Components IIP index

Weight: Mfg >> Mining >> Electricity
sectorweightitemsitemgroups
Manufacturing755.27620397
Mining141.57611
Electricity103.1611
total1000682399
  • Mind it: Total weight is 1000. So, if you want percentage weight, then shift decimal one point to left.
  • For example: manufacturing weight = 75.5%

IIP : Goods-wise Components?

IIP data released in two formats

  1. Sector wise: Mining, mfg, electricity (that we just saw above.)
  2. Goods category wise using the same components as above, but data presented for goods category wise….as shown below.
Basic GoodsAny bulk raw material/product used in manufacture. High Speed Diesel, Aviation Fuel, Kerosene, Urea, Cement all kinds, Granites, iron, copper and Electricity
Capital GoodsPlants, machinery and goods used for further investments. Boilers, compressors, engines, Transformers, Commercial Vehicles and all machineries like Textile Machinery, Printing Machinery etc.
Intermediate Goodsused for manufacturing of another product. Cotton yarn, Plywood, Adhesives, Aluminum and steel pipes etc.
Consumer durablecan be used for more than 2/3 years). Pressure Cooker, AC, tyre, Tv, mobile, automobile, Gems and Jewelry etc.
Consumer non-durablecan’t be used for long periods. Fruit Pulp, edible oil, milk powder,  tea, Cigarettes, Apparels, Newspapers, Antibiotics etc.

 

Goodswise weight, In decreasing order:
IIPWeight
Basic Goods456.82
Consumer non-durable213.47
Intermediate Goods156.86
Capital Goods88.25
Consumer durable84.6
total weight1000

IIP-8 core industries

  1. Within IIP, following 8 are core industries because they’ve impact on almost all other economic activities:
  2. Coal, fertilizer, electricity, crude oil, natural gas, refinery products, steel, and cement.

IIP- Deflation

  • IIP is a quantitative index, the productions of items are being expressed in physical terms.
  • But for some items, the information is received in “Value” term rather than quantity or volume.
  • So, CSO uses WPI as a deflator to convert that “price” into “volume”.

[Act 4] WHY REVISE WPI, CPI, IIP series?

Now time for a “FLASHBACK” in this movie

indexnew series effective from
CPI2011, January
WPI2010, September
IIP2011, June

So if these are the new series we talked about then what was the system before that?

Revision of Wholesale Price Index (WPI)

The WPI series has to be revised often, because of two reasons:

#1: base year

  • Inflation is a “relative” concept. When we say there is inflation – it means things used to be cheaper at some previous year.
  • So, to calculate WPI, we need a base year. Base year should be revised once in a while.

#2: product mix

  • WPI calculates inflation using Laspeyres formula for weighted arithmetic mean.
  • But this formula fails to capture the dynamic changes in product mix and structure of the economy over time.
  • For example, 15 years ago, price of VCR and magnetic tape cassettes would have mattered. But no one uses them anymore.
  • Same way, 15 years ago, people did not buy that much moisturizer creams and perfumes.
  • Hence we’ve to keep changing the components.
Based Abhijit Sen Committee
BEFOREAFTER Sen Committee, WPI reform
New system Started from 2010, Sep
Base year 19932004
435 items676
Increased no. of price quotations
  1. If factory directly exports, then don’t count that value in WPI
  2. If factory directly imports an item, don’t count it in WPI.
Added new items.

WPI: New items added:

List not exhaustive

Primary articles

  • Lemon, Gaur Seed, Rose, Jasmine, Marigold
  • Crude petroleum, Copper Ore, Zinc Concentrate

Manufactured items

  • Computer Stationery, UPS, SMPS, VCD player
  • Dish Antenna, Fibre Optic Cable
  • Perfume, Scent Cream, Moisturizer, Body Powder
  • Leather Gloves, jackets, garments, bags
  • Football, Toothbrush

Saumitra Chaudhuri Committee on WPI

Current WPISaumitra recommends
676 items~1200 items.
11 vegetables17
Expected to be operational from next year
Collect prices from more centres, to get better estimate.
Reduce weight of primary food items. Increase weight of mfg. items
Base year 20042009, And then to 2011

Enough of WPI, moving on

Revision of Consumer price index series (CPI)

PROLEM BeforeSOLUTION After
Started from 2011, January
base year 2010
Specific groups only.(Baseyear in bracket)

  • Industrial workers (2001)
  • agricultural laborers (1986)
  • rural laborers (1986)

Problem= doesn’t give “whole” picture

  1. Rural
  2. Urban
  3. combined (+ state/UT wise separately released)
  4. Consumer Food Price Indices (CFPI).
Item list designed based on NSSO’s 2004 survey. In future, CPI will be revised using NSSO’s 2011 survey.

Mind it: this doesn’t mean they no longer calculate CPI for industrial workers; Agro & rural laborers. They still do it.

Revision of Industrial Index production (IIP)

  • Each IIP item should have certain minimum contribution to national production.
  • For example VCR industry’s contribution in Today’s economy = 0%
  • Therefore, need to update list with based on technological changes, economic reforms and consumption patterns of the people.
IIP BeforeIIP After
C.P. Chandrasekhar Committee
Base year: 19932004
Added new items: Apparels, Gems and Jewellery, Newspapers,  pasteurised Milk, Writing & Printing Paper, Ayurvedic Medicaments, Woollen Carpets, Wood Furniture, Terry Towel, Coir Mats & Mattings, Polythene Bags, Instant Food Mixes, Fruit Pulp etc.
Information source agencies: 1516.

  • MSME dropped as a source agency.
  • Chemical and Fertilizer Department  added
  • So +2 minus 1 = 1 increase
NIC-1987Items used from National Industrial Classification (NIC)-2004
  • Increased weight given to mining and electricity
  • Decreased the weight given to manufacturing
  • Asked MSME ministry to develop a separate index for MSME sector

Comparison: WPI, CPI, IIP

What did we learn so far?
QUESTIONWPICPIIIP
HOW?Lespeyre’s formulasamesame
WHO?Economic advisorCSOCSO
WHEN?weekly & monthlymonthlymonthly
WHERE they get data?ministries, dept., industriesNSSO and Postal workersministries, dept, bodies
Components3: MFG > Primary > Fuel5 categories3: MFG > Mining >electricity
typesonly one WPIRural, urban, combinedSector wise and goods Usage wise.
items676682
base year200420102004
COREnon-food manufacturingheadline – (food+fuel)8 industries

[Act 5] WHY WPI, CPI, IIP important?

Yes, why bother calculating WPI, CPI and IIP in the first place!?

Why is WPI important?

Monitors the dynamic movement of prices.

WhoWhy they use WPI?
GovernmentTo design  trade, fiscal and other economic policies
RBITo design monetary policy, under Multiple indicator method: RBI used WPI. (But Rajan started using CPI for this purpose, since April 2014, on Urjit patel recommendation.
BusinessmenIn the business contract- to calculate price escalation clauses in the supply of raw materials, machinery and construction work.

Why CPI important?

Measures the price of goods that households consume.

Government
  • Monitoring price stability.
  • Calculating Dearness Allowance
  • Using as “DEFLATOR” in national accounting
RBI
  • To design monetary policy from April 2014 onwards, based on Urjit Patel recommendation.
BusinessmenCalculating Dearness Allowance

Why IIP important?

  1. The IIP measures volume changes in the production of an economy
  2. Provides a measurement that is free of influences of price changes
  3. Data used in Government policy planning purposes, Industrial Associations, Research Institutes and Academicians.

[Act 6] Other indexes

Service performance indices (SPI)

IndexDoes it cover service sector inflation?
WPINope
CPIPartially e.g. education, healthcare
IIP
  • It doesn’t capture “inflation”. It captures increase / decrease in “production”.
  • But here too, Service sector production not counted.
  • Anyways, Economic Advisor started services price indices (SPI). (recall he also does the WPI).
  • On experimental basis.
  • To capture inflation in following service sectors:
Railways SPIsfreight and passenger services
Banking SPIs
  • services for which banks charge fees, commissions, brokerage, etc.
  • RBI gets them data from 21 banks (13 sarkaari, 4 private, 2 foreign, 1 cooperative and 1 RRB).
Postal SPIs
  • only Department of Posts.
  • Hardly tells anything, because it IGNORES following:
  • Private courier companies
  • postal service to armed forces (for national security issue)
  •  money transfer via Western union, IPO, money order; revenue stamps.
Telecom SPIsonly for cellular services on the basis TRAI report. Quarterly basis.

All of them use same Laspeyre’s formula.

Baltic Dry index

  • London based Baltic Exchange, releases this index number on daily basis.
  • Measures cost to transport raw materials by sea.
If Baltic numbermeaning
Increases
  • More raw material shipped. World economy growing
  • Was highest in May 2008 (~11,800).
Decreases
  • Reverse impact on economy.
  • After 2008, After that continuous decline due to subprime, and eurozone crisis.
  • Lowest May 2014 (982)

Producer Price Index (PPI)

  • measures price change from the perspective of the seller.
  • i.e.  average change in selling prices received by domestic producers for their output.
  • Covers both goods + services. (WPI only covers goods)
  • Sellers’ and purchasers’ prices differ due to government subsidies, taxes and distribution costs. Therefore, better to use PPI. Bcoz CPI doesn’t cover this.
  • Majority of the OECD countries measure inflation based on Producer Price Index (PPI)
  • WPI has been replaced in most countries by Producer Price Index (PPI) due to the broader coverage provided by the PPI in terms of products and industries
  • PPI has more concordance with system the national account. (compared to WPI)
  • Therefore, Office of the Economic Adviser (OEA) has taken up the initiative for constructing a Producer Price Index (PPI) for India.

Some notable countries

  • Ireland uses BOTH WPI and PPI
Only WPIOnly PPI
Japan, Australia, Greece, Norway and TurkeyCanada, USA , Aussies, S.Korea, UK, Spain, Italy

Some more indexes

RBI
  • Inflation expectation survey of households.
  • For three months and 1 year ahead periods.
OBICUS
  • Order Books, Inventories and Capacity Utilization Survey (OBICUS)
  • By Reserve Bank of India (RBI)
  • To assess consumption and investment demand
  • Surveying ~2500 companies in manufacturing sector
  • Timeframe: quarterly
ASI
  • Annual survey of Industries
  • By NSSO under Statistical ministry
  • To survey manufacturing sector’s growth and structure
  • Surveying every mfg. unit employing 10 workers or more.
  • Annually
HSBC
  • India Manufacturing Purchase Managers’ Indices (PMI).
  • Monthly basis
NEER|REER
  • will see them when I publish articles for ch6 and 8….in the meantime you may refer to the powerpoint or lecture videos..

[Act 7] Laspeyre’s formula

Not for prelims. But when they want to begin “STRESS” interview particularly during bank/MBA.

  • Laspeyre was a German economist .
  • His formula used in calculation of WPI, CPI, IIP, service price indices.
  • It is a Weighted arithmetic mean.

Let’s understand with a crude example.

  • Suppose a local thug’s “INFLATION” index uses following format, with 2004 as base year.
  • He can only decide the base year and weights assigned to each components on his own. Condition: he should distribute the weight in such manner that total weight is 10, 100, 1000- that way % calculation is easier.
  • After that, monetary policies, fiscal policies and market forces will determine the prices in base year and current year. He just has to apply formula.

So, excel data looks like this:

Componentsweight2004 prices2014 prices
Desi liquor10Rs. 10Rs. 15
Gutkha20Rs. 2Rs. 5
Cinema70Rs. 50Rs. 75
Weight100

First, I’ll find relative price (Current prices divided by BASE year’s prices)

Componentsweight2004 prices2014 pricesR
Desi liquor10Rs. 10Rs. 151.5
Gutkha20Rs. 2Rs. 52.5
Cinema70Rs. 50Rs. 751.5

Now I’ll multiply Relative price with weight assigned to each components

Componentsweight2004 prices2014 pricesRRxW
Desi liquor10Rs. 10Rs. 151.515
Gutkha20Rs. 2Rs. 52.550
Cinema70Rs. 50Rs. 751.5105
Total100170
  • Finally, the addition of RXW will me index number for current year. 15+50+105=170.
  • That means Current inflation in 2014, is 70%, compared to the prices in base year 2004.
  • In 2015, If I get the number 180=80% inflation than base year (2004)
  • But compared to 2014, the 2015’s year on inflation would be (180-170)/170=~6%.

Statistically we can express with this formula:

Lespeyers formula inflation index

Note: some books use P0/Q0, it’s basically the same. Because they take “weight” as = (p x q).

Some other indexes (only GIST, not going in details)
Paasche indexTells us what today’s “Basket” of commodities, would have cost @yesterday’s price.
Fisher indexGeometric mean of  (Laspeyrese and Passche). This solve the problem of “substitution bias” in consumer Expenditure.

Mrunal recommends

  1. (free) NCERT, NIOS, TN-Books
  2. Environment by ShankarIAS
  3. Indian Polity M.Laxmikanth (Hindi | English)
  4. Art & Culture by Nitin Singhania (Hindi | English)
  5. Spectrum: Modern History (Hindi | English)
  6. Bipin Chandra: Post Independence
  7. Fast-track to Arithmetic Rajesh Verma
  8. MK Pandey’s Analytical Reasoning
  9. Disha’s Topicwise Paperset (Hindi | English)
  10. School Atlas
  11. Mains: Language papers
  1. (free) NCERT, NIOS, TN-Books 4 History,Geo,Sci
  2. Indian Polity M.Laxmikanth (Hindi | English)
  3. Spectrum: Modern History (Hindi | English)
  4. Maths: Quantam CAT Sarvesh Kumar
  5. Objective General English SP Bakshi
  6. Word Power made Easy -Norman Lowe
  7. Topic wise Solved Paperset by Disha


So far 89 Comments posted

  1. YOGESH KUMAR

    thank you very much sir

  2. Pranab

    Sir..what about prelims 2016

  3. yogeshwar trehan

    where is mrunal’s acedmy

  4. Abhishek Sharma

    Thanks

  5. Ranjan kumar Raj

    This is so helpful

  6. Neha

    Hello, the CPI base year has been changed to 2012. What about the other, like WPI?

  7. Apoorva

    Thanks a lot sir… 🙂

  8. Desanth

    very much helpful…..thank u

  9. shrihari

    Little update
    Cpi base year 2012
    Wpi base year 2011-12
    iip base year 2004_05

    1. Satish

      Sir WPI base year is currently 2004-05. Feb 2017 WPI Is 6.55%.

  10. Kumar Nikhil

    Thank you very much Sir.. Your notes are “bull’s eye”..

  11. shikha garg

    Thank u sir.

  12. nilendu

    sir, this article need some update due to some change by the ministry, e.g. base year of cpi is 2012 now.

  13. Ramya Anne Jose

    Cpi base year changed to 2012 , please update.

  14. [email protected]

    Hello sir,
    Your way of teaching is very awesome. Though I hail from South India, I can understand your way of teaching in Hindi. Thank you very much for your excellent classes.

  15. B Ganesh

    Sir,
    ANNUAL SURVEY OF INDUSTRIES is conducted by CSO , right?

Write your message!