THE GIST of Editorial for UPSC Exams : 22 FEBRUARY 2019 (India needs more accurate inflation measurement(Live Mint)

India needs more accurate inflation measurement(Live Mint)

Mains Paper 4: Economy
Prelims level: Inflation
Mains level: Discuss the highlights of inflation measurement process

Context

•  Inflation dynamics are complex and depend to a large extent on expectations of inflation.
•  Central banks the world over, including the Reserve Bank of India (RBI), factor in such inflationary expectations when carrying out inflation assessment for purposes of monetary policy formulation.
•  RBI, in its sixth bimonthly monetary policy for 2018-19, cut the repo rate by 25 basis points, and also voted to shift the monetary policy stance from calibrated tightening to neutral.
•  The assessment of inflation was based on the global and domestic economic outlook, crude oil prices, etc.
•  It was also based on headline inflation figures, and household inflationary expectations.
•  RBI cited retail inflation, which was at the lowest in the last 18 months in December, and the softening of household inflationary expectations in its December survey as shaping its outlook.

Three questions arise.

•  One, what were the inflationary expectations of Indian households compared to actual inflation, and were there variations among different groups?
•  Two, given the heterogeneity of inflationary expectations among different agents, how should we assess the reported softening in household inflationary expectations?
•  Three, what are the implications of these findings for monetary policy, especially rate cuts?

An outlook of inflation data

•  A detailed perusal of RBI’s household inflation expectations survey sheds light on the anomalies in inflationary expectations in India.
•  Against the actual inflation rate of 2.2% in December, the perception of the current median inflation was at a high 7.1% that month.
•  The perception of three months’ ahead median inflation was 8.2% and that of one year ahead was 8.5%.
•  This was in variance with RBI’s inflation outlook at 3.2-3.4% for the first half of 2019-20 and 3.9% for the third quarter of 2019-20.
•  The current median inflation expectations among financial sector employees, homemakers and retired persons was 7.2%, 7.3% and 7.8%, respectively, while the three month ahead forecasts were 8.1%, 8.6% and 8.9%.
•  Similarly, there was a gender-based variation, with female inflationary expectations surpassing those of male respondents.

Impacts

•  It is important to note that the inflation expectations survey covered only urban households.
•  The actual inflation across most categories in December (except food and clothing and housing components) was higher for households in rural India than in urban regions.
•  In particular, miscellaneous inflation (in the services category) for rural India was as high as 7.51%.
•  Such high inflation numbers would affect inflationary expectations of rural households as well, which are currently not captured.
•  While inflationary expectations of other economic agents, especially businesses and trade unions, are also not estimated currently, RBI’s other surveys indicate that both consumers and manufacturing companies in India are pessimistic about the price situation.

Conclusion

•  Thus, the current assessment of inflationary expectations in India has important omissions, notably those of rural households, businesses and trade unions.
•  Further, there are anomalies in the form of irrational forecasts above the official target range.
•  The groups demonstrating these anomalies, as also those omitted are important since they drive the inflation process itself, and not just future inflation.
•  Improved anchoring of inflationary expectations of all groups which directly impact inflation outcomes is critical.
•  This, in turn, would require a better and more realistic nominal anchor than the current headline inflation, greater central bank communication, increased labour market flexibility and other structural reforms aimed at increasing competition.

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Prelims Questions:

Q.1) Which of the following is/are considered while deciding the Fair and Remunerative Prices of Sugarcane?
1. Cost of production of sugarcane
2. Return to the growers from alternative crops and the general trend of prices of agricultural commodities
3. Recovery of sugar from sugarcane

Select the correct answer using the code given below:
a) 1 only
b) 1 and 2
c) 2 only
d) 1, 2 and 3

Answer: D

Mains Questions:
Q.1) India needs more accurate on inflation measurement. Give your arguments in this regard of this statement.
India needs more accurate inflation measurement(Live Mint)