What is inflation all about?
Very simply, inflation is the rate at which prices, in general, rise. Basically prices go up for two reasons: rising costs (cost push) and rising demand (demand pull).
The former occurs due to increase in the cost of producing an item, which means a higher price. The latter happens when the customers have excess money vis a vis the amount of goods available. In such a situation, we have too much money chasing too few goods and prices rise because people are willing to pay more for the same item. When an item is in short supply, we have demand pull inflation.
As against inflation, we have deflation, a situation when the prices fall. This is a theoretical situation which rarely occurs in developing countries.
What about inflation in India?
In India, we have a combination of both cost push and demand pull. For example, the high onion prices seen recently were a result of demand pull inflation as the shortage of onions took the prices to new highs. Prices, in general, also rise with a hike in petrol prices but the inflation here is due to cost push factors. Petroleum is a vital industrial input and fuel, which adds to the transportation costs and hence, inflation, in general.
Why the pinch of rising prices despite low inflation?
The secret lies in the inflation figures the government publishes every week. These figures denote the rate of change in wholesale price index (WPI), which measures the price changes at wholesale level. But what really concerns us as individual buyers is the consumer price, which it fails to capture.
Though the wholesale prices have risen, the consumer prices (measured in terms of consumer price index - CPI) have grown much faster. Hence the pinch.
Why the difference between wholesale prices and consumer prices?
This is due to many reasons. A major part of the difference is due to the retailers’ margin built into retail prices. Besides, the two indices differs both in the weightage given to items and the kind of items in the basket.
Why don’t we get the consumer price index?
Retail prices vary across regions and cities according to consumer preferences for certain products and local purchasing power. Besides, the taxes levied by states are an important reason behind the price variations.
Therefore, the government sticks to the wholesale price index whenever it talks of inflation.