The revisions of two significant data series were released last Friday, mostly on the lines of changes recommended earlier by expert committees. By now, the details of the revision would have been disseminated in the media, but it might still bear brief repetition. Understanding the nature of the revisions will be important for interpreting the very significant divergence between the old and revised series, particularly stark for two years, FY14 and FY17. Changes in the structure of the IIP are significant. The coverage of items has increased substantially (to 839); 258 items are common to the old 2004-05 and 2011-12 series (roughly 85% of the new series), 149 new items have been added and 124 items dropped.
The older (use-based) classification has been modified as shown in the accompanying graphic. There are other technical changes on the sampling of companies, which was one of the key reasons for the irrational growth numbers for a few items in the old 2004-05 series, the most egregious being “insulated rubber cables”. We had written of this before, the very deep negative growth rates sharply pulling down growth in the capital goods segment. Adjusted for just this one item, capital goods growth in H1 FY17 would been an average 3.0% instead of the reported -22%; consequently, the adjusted IIP growth would have been ~3%, not the reported 0%.
This narrative is carried forward in some parts of the differential annual growth of the new series. The new series shows a generally higher growth compared to the old series, but the sharp divergences need some explanation. In the absence of a granular mapping of items at the broad, use-based classification level, we have clubbed together the Primary and Infra/Construction groups of the new Index for comparison with the Basic Goods group of the old index. For FY17, of the 4.6% discrepancy in the growth rates of old and new indices, capital goods (CG) and consumer non-durables (CND) contributed almost 4.1%. The capital goods segment is explainable, and so is some part of the FMCG.
In the latter segment, a large part of the delta is in effect, because of pharma. The medicines group comprise almost 5% of the IIP basket, and grew 33% y-o-y in FY17. Pharma exports in FY17 was flat. There was a 10% drop in imports, but imports are too small to have a big effect. The discrepancies of the earlier years are more evenly dispersed across the two-digit level items, but seem to be emanating for FY14 from three segments which do not yet have a very identifiable attribution in the item wise list for the new series. These are (i) office, accounting and computing machinery, (ii) radio, TV, and communication apparatus and (iii) medical equipment, watches, etc. The medicines group has a minimal role this year.
The other revision was to the WPI series, and this is being sought to be moved towards one component of a Producer Price Index; it will no longer incorporate the effects of indirect taxes or subsidies (of course, a full PPI will need a Services Price Index). This change delinks price changes from the effects of changes in tax and subsidy policies, and will better track factory gate price changes (rather than MRPs).
The new WPI-based inflation is generally lower than the older one. In the meantime, the April 2017 CPI y-o-y, at 2.99%, was even lower than market consensus. What’s remarkable is that inflation in almost every item was lower than expected. Even core (non-food & fuel) inflation was lower, largely due to lower transport services (petrol & diesel). Prima facie, the CPI inflation trajectory for FY18 looks like inflation might materialise significantly lower than RBI’s April forecast.
Overall, while some of the upside risks to inflation, at this point, appear to have moderated (monsoon prospects, global commodities, an OPEC output cut decision later in May), the others still remain (GST, 7th Pay Commission effects). On the other hand, the IIP and WPI effects (i.e., higher IIP growth and lower WPI inflation via the effects of the lower deflators) will serve ceteris paribus to boost the real GDP numbers of both the FY17 and previous years. [Non-agri nominal GDP is broadly deflated with about 40% WPI, 32% and the rest, estimated from volumes].
However, this update still remains uncertain, given the incoming inputs from the Ministry of Corporate Affairs (MCA) database and Annual Survey of Industries (ASI), which might serve to offset the presumed higher original data. Therein might emerge a quandary for the Monetary Policy Committee, in evaluating the emerging growth–inflation tradeoff. Certainly, the new economic data opens up more space for further easing, with the risks of inflation shifting from balanced to lower. However, we don’t think there will be any change in stance in the near future, till lower inflation expectations begin to sustainably materialise.
With contributions from Abhay Chavan and Tanay Dalal