The yawning gap between wholesale price inflation and consumer price inflation is partly a puzzle and partly an indication that all is not well with economy statistics in India.
The rate at which wholesale prices are rising is the most widely tracked measure of inflation. By this measure, prices are almost at the same level they were at last year. There is also a lot of talk whether India is on the cusp of a short and shallow bout of deflation.
Consumer prices tell a completely different story. There are four measures of consumer price inflation, and they show that the prices that citizens pay for their daily and monthly household purchases are around 10% above their levels last year.
There is an important policy muddle that arises out of these two dramatically polar situations—deflation, on the one hand, and double-digit inflation on the other. What is the Reserve Bank of India (RBI) to do? The Wholesale Price Index suggests that real interest rates in India are among the highest in the world while the Consumer Price Index suggests that we have negative real interest rates.
There is enough debate on whether the central bank needs to look at wholesale prices or consumer prices when it plots its next move. But the huge difference between these two inflation measures also points to a different issue—the lack of credible statistics on the Indian economy.
It’s not that the government is not aware of this problem. C. Rangarajan chaired a commission set up in January 2000 to review the official statistics in India. A National Statistics Commission started work in July 2006. In Pronab Sen, the government also has an influential chief statistician now.
Some progress has been made but a lot more needs to be done. The report by the Committee on Financial Sector Assessment, chaired by RBI deputy governor Rakesh Mohan and released on Monday, has some interesting pointers on this as well.
“There has been significant improvement in the data dissemination practices of various agencies, namely, the Central Statistical Organisation (CSO), the office of the economic adviser in the ministry of commerce and industry and the Reserve Bank. There is an urgent need to strengthen the functioning and data dissemination practices of the CSO, which had weakened after data submission became a voluntary process. There is also a need to consolidate the process of compiling labour data and this should be done by a professional statistical organization. As far as price indices are concerned, updating the weights and inclusion of new products in the basket of goods needs to be expedited,” says the official press release from RBI.
But India also needs another set of statistics—official or otherwise—on the state of expectations in markets, among companies and consumers. Most of the economy-wide statistics currently available are about the past—prices, employment, output and so on.
But the future direction of the economy depends not just on what happened yesterday but what economic agents expect will happen tomorrow. Are consumers not spending because of the fear of job cuts? Are bond traders expecting RBI to cut interest rates? Are investors too scared of buying risky assets?
The current global crisis shows that these issues matter a lot. Human psychology—or what John Maynard Keynes evocatively called animal spirits— can be of immense importance. Governments and regulators thus need to keep a close eye on variables such as inflationary expectations, risk aversion, consumer confidence, interest rate expectations and the like.
There are two ways to go about it. First, countries that have deep and liquid financial markets can read the state of expectations in the economy through the prices of bonds and derivatives such as credit default swaps. Indian policymakers and analysts do not have that opportunity right now, though there are stray cases where financial markets prices are good indicators. The signals from the overnight index swaps (OIS) market do offer fairly dependable clues on whether the markets expect RBI to raise or reduce interest rates, and by how much.
Second, in the absence of robust bond and derivatives markets, policymakers will need to depend more on surveys of consumers and companies to gauge confidence levels.
Even as the debate on the quality of historical statistics rages around us, it is also time that economic debate in India takes data on the subjective preferences of consumers, companies and financial market traders more seriously. After all, the macro economy is built on the microeconomic choices made by economic agents, rational or otherwise.
It would be good if the finance ministry and RBI gave us a better idea of how they assess the state of consumer confidence, risk aversion, inflationary expectations and the like, because these are variables that really matter in a modern market economy.
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