Producer Price Index and its impact on WPI and CPI

The Indian government has formed a Working Group to revise the base year of the Wholesale Price Index (WPI) and update its commodity basket, alongside the Producer Price Index (PPI). This comes at a time when inflation trends are under scrutiny, and the role of different inflation measures, such as WPI and PPI, is gaining prominence in economic policy discussions.

What is the Producer Price Index (PPI)?

• The Producer Price Index (PPI) measures the average change in prices received by producers for their goods and services over time.
• Unlike WPI, which tracks the prices of goods at the wholesale level, and CPI, which measures inflation at the retail level, PPI focuses on the production stage—specifically what producers (like farmers, manufacturers, and energy producers) receive for their output before goods are sold to wholesalers or consumers.
• Key Features of PPI:
  • Focus on Producers: PPI tracks price changes at the point where goods and services are produced, either at the factory gate or farm gate, before they reach wholesalers or consumers.
  • Broader Coverage: It includes a wide range of sectors such as manufacturing, agriculture, mining, and electricity, giving it a broader scope compared to WPI, which primarily covers goods.
  • Excludes Taxes: Unlike CPI, which includes indirect taxes, PPI excludes them to give a true reflection of what producers are paid, without the impact of tax

PPI’s Influence on WPI and CPI: The Domino Effect

The PPI plays a critical role in shaping broader inflation trends. Here's how it cascades down through the economy:

• PPI ? WPI: If producers face higher input costs (for example, higher costs for raw materials like crude oil or steel), they pass these costs on to wholesalers. As a result, the WPI increases, since wholesalers now have to pay more for goods.
• PPI ? CPI: When wholesale prices rise (as reflected in the WPI), retailers—who purchase goods from wholesalers—raise their prices. This, in turn, leads to higher costs for consumers, thereby causing the CPI to rise.

In simple terms, the PPI acts as the starting point for inflation. It reflects cost pressures on producers, which eventually ripple through to wholesalers (WPI) and then to consumers (CPI). This cycle helps us understand how inflation starts in the production process and impacts both wholesale and retail levels.

PPI vs. WPI: Key Differences

While both PPI and WPI measure price changes at the wholesale level, they differ in the scope and the type of prices they track:

• Scope of Coverage:
  • PPI includes a broader range of goods and services, covering both intermediate goods (e.g., raw materials like steel) and final products (e.g., consumer electronics).
  • WPI, on the other hand, mainly tracks wholesale prices of goods and does not include services.
• Tax Treatment:
  • PPI excludes indirect taxes (such as GST), which gives a clearer picture of what producers actually receive for their products.
  • WPI includes taxes, making it less reflective of pure producer pricing.

Why is PPI Important?

• PPI provides a more granular view of price movements.
• This helps policymakers and businesses understand inflation from its root cause—price pressures at the production level—rather than just its downstream effects at the consumer level.

Why does India rely on WPI and CPI?

While the PPI offers a deeper insight into inflation at the production stage, India predominantly relies on WPI and CPIfor its inflationary measurements. The reasons are as follows:

• Historical Data: Both WPI and CPI are long-established indices, and there is ample historical data to compare inflation trends.
• Ease of Interpretation: Policymakers, businesses, and the general public are more familiar with the WPI and CPI, making them easier to interpret.

However, economists argue that incorporating PPI more centrally in inflation measurement could enhance policy precision and provide a better understanding of inflationary pressures across different stages of the economy.

How PPI Influences Economic Policy?

The PPI plays an important role in shaping economic policy, especially in the following ways:

• Monetary Policy: If the PPI rises (indicating higher input costs for producers), the Reserve Bank of India (RBI)may consider tightening monetary policy (raising interest rates) to control inflation.
• Industrial Strategy: If certain sectors (e.g., steel or cement) show a significant rise in PPI, the government may intervene by reducing import duties or offering subsidies to help manage rising costs and protect domestic industries.

Challenges in Adopting PPI in India

Despite its advantages, India does not yet publish a comprehensive PPI and continues to rely on WPI and CPI. Some of the challenges to adopting PPI are:

• Data Availability: Collecting comprehensive PPI data across various sectors can be difficult and requires robust infrastructure.
• Transition Issues: Moving from a WPI-based system to a PPI-based one would require considerable changes in data collection and interpretation methods.