Taking aim at retail inflation is a very complex challenge for RBI

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₹200 per kg in some parts of Mumbai. But with a weight of around 0.6%, they have shown negative inflation for the last three months, with the latest being -35% in June. This reads odd, but it is a statistical reality, as the base was high last year, which has given us such a counter-intuitive outcome.

Using inflation numbers for policymaking is a challenge due to base effects and the spikes or troughs caused by single commodities. The RBI’s mandate is to target the consumer price index (CPI) headline number, which can be too capricious. Using core can be a way out.

Currently, it features in explanations but isn’t used to anchor the target. Prior to the CPI, the wholesale price index (WPI) was used as a target. The rationale was that the WPI is influenced by interest rates as it is a producers’ price index.

These are the conundrums we face in choosing an inflation target for India. Interestingly, what goes into the index is also important. Often, we tend to compare US inflation and the policy action of the Federal Reserve with that of RBI.

But our indices are different. The CPI in the US is impacted more by the Fed rate because of high household leverage. Here a comparison with the components is also quite insightful.

In India, the food basket has a weight of 45.9% in CPI at the all-India level. For the US, it is just 13.4%. The decisive component in the US index is housing, with a weight of 34.5%, while for India, that is much lower at 10.1%.