Effects and measurement of inflation

The most immediate effects of inflation are the decreased purchasing power of the rupee and its depreciation. Depreciation is especially hard on retired people with fixed incomes, as spending power decreases each month. Those not on fixed incomes are more able to cope, because they can simply increase their income. Another destabilising effect of inflation is that some people choose to speculate heavily in an attempt to take advantage of the higher price level. Because some of the purchases are high-risk investments, spending is diverted from the normal channels and some structural unemployment may take place. Finally, inflation alters the distribution of income. Lenders are generally hurt more than borrowers during long inflationary periods, which mean that loans made earlier are repaid later in inflated rupees. Inflation weakens the function of money as storage of value, because each unit of money is worth less with the passing of time. The progressive loss of the value of money during a period of inflation makes the borrowers to be less willing to use the money as standard differed payments.
To measure the price level, economists select a variety of goods and construct a price index such as the consumer price index (CPI). This is one measure of inflation. The CPI measures inflation as experienced by consumers in their day-to-day living expenses; it is the ratio of the value of a basket of goods in the current year to the value of that same basket of goods in an earlier year. By using the CPI, the inflation rate can be calculated. This is done by dividing the CPI by the beginning price level and then multiplying the result by 100. The GDP deflator is another very important measure of inflation as it measures the price changes in goods that are produced domestically.
Pakistan publishes four different price indices, namely: the consumer price index (CPI), the wholesale price index (WPI), the sensitive price index (SPI) and the GDP deflator. The CPI is the main measure of price changes at the retail level. It indicates the cost of purchasing a representative fixed basket of goods and services consumed by private households. In Pakistan, the CPI covers the retail prices of 374 items in 35 major cities and reflects roughly the changes in the cost of living of urban areas. The WPI is designed for those items which are mostly consumable in daily life on the primary and secondary level; these prices are collected from wholesale markets as well as from mills at organised wholesale market level. It covers the wholesale price of 106 commodities prevailing in 18 major cities of Pakistan. The SPI shows the weekly change of price of 53 selected items of daily use consumed by those households whose monthly income in the base year 2000-01 ranged from Rs3000 to above Rs12000 per month. The SPI also informs about the actual position of supply: whether the commodity is available in market or not. If the commodity is not available, the reason for that is also recorded. It is based on the prices prevailing in 17 major cities and is computed for the basket of commodities being consumed by the households belonging to all income groups combined as in CPI. In most countries, the main focus for assessing inflationary trends is placed on the CPI, because it most closely represents the cost of living. In Pakistan, the main focus is also placed on the CPI as a measure of inflation as it is more representative with a wider coverage of 374 items in 71 markets of 35 cities around the country. Inflation has started veering its ugly head in many parts of the world, including Pakistan. Food inflation has emerged as the main contributor to inflationary pressures. (See Table)
The inflation rates based on CPI, SPI and WPI for the year 2008-09 increased by 22.35 per cent, 26.33 per cent and 21.44 per cent respectively over the corresponding period of 2007-08. It increased by 10.27 per cent, 14.09 per cent and 13.70 per cent respectively in 2007-08 over the corresponding period of 2006-07. In 2006-07, the rate of inflation increased by 7.89 per cent, 11.13 per cent and 6.92 per cent respectively over the same period of 2005-06. An analysis of data for last three years for the same period indicates that CPI, SPI & WPI were higher as compared to last two years. (See Chart)
The government is cautious about inflation and thus has taken various steps to release demand pressures on the one hand and enhance supplies of essential commodities on the other. To ease demand pressures, the State Bank of Pakistan (SBP) has continuously tightened the monetary policy over the last three years and more so in the current fiscal year, while to enhance supplies, the government has relaxed its import regime and allowed imports of several essential items so that there is a continuous flow in the supply of those important commodities. In addition, the government increased the imports of items like wheat, pulse and sugar to complement the efforts of the private sector. In order to provide relief to the common man, the government also increased the scale of operations of the Utility Stores Corporation (USC) which supplies essential commodities such as wheat flour, sugar, pulses and cooking oil/ ghee at less than the market prices.

ALL THREE INDICES CPI, SPI AND WPI AT A GLANCE
Average July–April over same period of previous year
(Change of indices in %)
Index 2006-07 2007-08 2008-09
CPI 7.89 10.27 22.35
SPI 11.13 14.09 26.33
WPI 6.92 13.70 21.44
Source: FBS