The Reserve Bank of India (RBI) may have got some relief from possible scrutiny by the central government for failing to meet the inflation target by not taking into account imputed consumer price index (CPI) for April and May.
Imputation means that prices for some groups were taken as the basis for similar groups where prices were not available due to lockdown in these months.
If the inflation rate is calculated from imputed CPI for these two months, the pace of price rise has exceeded six per cent for two consecutive quarters — January-March and April-June (see chart). Besides, it was well above six per cent at 6.93 per cent in July. If the rate remains high in September, the statutory mandate of keeping the inflation rate within 2-6 per cent in three consecutive quarters would be breached.
CPI Inflation in % year-on-year
Note: Figures for April and May are derived from imputed value of index that MoSPI gave
The law requires that in case of the breach of the above cited mandate, the central bank has to send a report to the government stating the reasons for failure to achieve the inflation target, remedial action proposed to be taken by it, and an estimate of the time-period within which the inflation target will be achieved pursuant to timely implementation of proposed remedial actions.
The target was valid till March 31, 2021, according to the RBI Act, amended through the Finance Act, 2016. That Act also brought in the monetary policy committee (MPC) to implement the target through monetary policy.
In a recent monetary policy statement, MPC stated that since the National Statistics Office (NSO) did not provide the inflation rates for April and May, but the imputed index, it is of the view that CPI prints for these two months can be regarded as a break in the CPI series for the purpose of monetary formulation and conduct.
However, experts have been calculating the inflation rates from the imputed index for these two months too.
“If imputed inflation for April and May is used, then you have inflation of over six per cent for two consecutive quarters, which is a worrying signal for RBI,” said Devendra Pant, chief economist at India Ratings.
But, experts agreed with MPC to not consider the imputed CPI from the point of view of monetary policy.
Former chief statistician Pronab Sen said this is the wrong time to do imputations. “Imputations are fine when you have missing data points in a normal situation. This is an abnormal situation. You cannot say that one sector behaves like another sector. Different sectors are behaving very differently. There is no real basis for imputation that I can think of,” he said.
Sen,who is now country director at International Growth Centre (IGC), said MPC was absolutely right in saying that it was not going to go by imputations in these times. He said what worried RBI and him was that the wholesale price index (WPI) and CPI are moving in different directions.
As WPI does not have services in it, so, the best thing to do is to compare WPI with agriculture and core CPI (which does not include food and fuels) excluding services, he explained.
“What you are getting is WPI is showing deflation, CPI is showing more than six per cent growth. If you take out services, CPI inflation would be higher. Now that gap is too large and is moving in different directions. So, what inflation are you worrying about?,” Sen wondered.
WPI showed deflation for the month of April, May and June at 1.57 per cent, 3.21 per cent and 1.81 per cent respectively.
When reminded that the mandatory target is to keep CPI inflation within 2-6 per cent and not WPI, he said it is not specified that CPI will be the only input in the decision making.
Pant also agreed that the MPC did the right thing.
“For the abnormal months of April and May, we don’t have price quotes available for NSS to compute these prices. These could be taken out for any policy formulation,” he said.
To buttress his point, he said the CPI was calculated in April on the basis of price quotes of 59.5 per cent of items which increased marginally to 63.1 per cent in May.
For instance, inflation rate in recreation and amusement was higher at 5.7 per cent in April and 5.5 per cent in May from 4.4 per cent in March. However, these activities were completely shut in April and May. One can argue that there could be base effect to justify the numbers, but the index value of this service was also higher at 146.5 points in April and 146.8 points in May compared to 143.7 points in March, Pant said.
“Hence there is a merit for not considering imputed value of inflation for the month of April and May for the policy formulation,” he said.
Soumya Kanti Ghosh, group chief economic advisor of State Bank of India (SBI), said it was right thing to do for RBI to discard imputed inflation figures. However, he said inflation numbers are quite higher than calculated by NSO these times because the consuming habits of the people have changed due to lock down and there is much higher intake of food items which have higher weight of over 45 per cent in CPI.
Madan Sabnavis, chief economist at Icra said RBI was right in not taking into account imputed inflation because the central bank made it very clear that as the economy was crumbling, it became overriding factor to preserve growth.
When RBI said it would maintain an accommodative stance, it meant that the central bank was not going to increase the rates. It also meant that the RBI was aware that the inflation rates could be six per cent in August and September as well.
“That is when you reach the critical stage that inflation rates could be over six per cent for three consecutive quarters and RBI has to give an explanation to the government. But, I think these are unusual circumstances. RBI is cognizant of the fact that inflation is much higher but by taking the stance that monetary policy is going to be accommodative it has given a signal that interest rates are not going to be increased,” Sabnavis said.
Aditi Nayar, principal economist at Icra said the prices of fuels have been inflated by higher excise and value added tax by the Centre and states which is adding to the overall inflationary pressures that have emanated largely from supply constraints.
The inflation rate in fuel and light rose from 2.69 per cent in June to 2.80 per cent in July.
While releasing imputed CPI for April and May, NSO had stated that it has imputed missing sub-groups or groups by using next level up index.
For instance, ‘food & beverages group index’, calculated on collected prices, is used for imputing the index the sub-groups of food & beverages group.