By Dr Chandrima Sikdar
The annual rate of inflation, based on the monthly Wholesale Price Index (WPI), shot up to a 39 month high of 6.55 percent in February 2017. Persistently rising average prices, negatively affect an economy by bringing down the real values of important macroeconomic variables including investment and growth. For a comprehensive assessment of the impact of rising WPI, one needs to look at the effect this has on economic agents, namely consumers, producers and the subsequent response of the regulators.
For consumers who are affected by a rise in retail rather than in a rise in wholesale prices, the impact of rising WPI depends largely on how this reflects in CPI (Consumer Price Index) movements. For producers, rising WPI inflation may result in rising input costs. But at the same time, it may indicate a fall in the excess capacity of producing units and an increase in demand, thus giving producers more pricing power. The regulators response to WPI inflation depends mostly on the index they use while framing macroeconomic policies and other economic concerns faced by the economy.
Understanding the increase in WPI
The current increase in WPI in India is driven by an increase in two of the three product groups that constitute the WPI. The groups are primary articles (food, non-food and minerals) and fuel and power, while the prices of manufactured products remain constant. Prices of all major food items, except for items like pulses, tea, coffee and wheat have increased. With summer closing in, perishable food items like fruits and vegetables are likely to show a further seasonal uptrend. Besides, according to the Australian Bureau of Meteorology, monsoons may not bring the usual amount of rainfall due to the El Nino effect. In such a situation, any rise in WPI due to an increase in food prices may result in a rise in CPI. This is because, firstly, CPI has a higher weightage of food (54.2 percent) as compared to WPI and secondly, because WPI does not take into account the substantial retail margins that tend to rise in face of shortages. Added to these issues, is an increased demand for consumer goods following remonetization of the economy. Thus, CPI inflation which already picked up to 3.7 percent in February 2017 from 3.2 percent in January may see a further rise in the coming months.
What it means for the producers
Rising WPI is good for producers only if it comes from an increase in prices of manufactured goods. Unfortunately, the current increase in the index is entirely due to product groups other than manufactured articles. An increase in these prices, particularly, that of minerals, fuel and power is against the interest of the producers as this will increase input costs thereby lowering their profit margins which had just begun to expand post remonetisation.
WPI started rising due to the rise in prices of oil and commodities like base metals, alloys which are mirroring global trends. Though oil prices dipped in March 2017, experts believe that global oil and gasoline prices will recover during summers which usually is the heavy driving season. Political and economic upheaval in oil-producing countries like Venezuela may also cause global crude oil prices to rise. WPI based inflation is likely to rise higher than expected and may also result in an upward movement of CPI.
The plan of the regulators
Given these domestic and external factors, the RBI which is guided by movements of CPI for its monetary policy stance is unlikely to initiate an immediate cut in the policy interest rate. Thus, with current concerns of rising inflation, policy focus will stay on bringing the rate of inflation down while the growth of the economy takes a back seat. However, India’s strong economic fundamentals and its stable political environment have the potential to push growth from the supply side, which will bring down the inflationary pressure currently building on the economy. Thus, rising WPI, though a concern is likely to be a temporary one.
Dr Chandrima Sikdar is a Professor at the School of Business Management at Narsee Monjee Institute of Management Studies (NMIMS) in Mumbai.
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