It’ll better reflect consumption patterns

The weights in the new CPI will reflect changes in how Indian households allocate money in their monthly budgets to various items of spending such as food, housing, healthcare and entertainment.

These changes were revealed in the nationwide household expenditure survey conducted a couple of years ago. Shifts in the spending pattern are only to be expected as incomes have grown since 2012. The base year of the CPI will now be 2024.

The overdue move to a new CPI will have important consequences for Indian monetary policymakers, since their main task under the flexible inflation targeting framework is to keep CPI inflation within a range.

The results of an earlier household consumer expenditure survey—which provides the statistical structure to measure inflation—due to be released in 2019 were held back by the government, which cited data quality issues.

What the delay in updating inflation measurement meant is that Indian monetary policy has for several years been operating with an outdated inflation measure based on consumer spending data more than a decade old.

The new series should therefore provide a more accurate picture of what the average Indian household actually spent money on in 2024 (compared to 2012) and give monetary policymakers a better sense of what the country’s true inflation situation is.

The most significant change in the new CPI is that the weight assigned to food items will drop from 45.86% to 36.75%, a result of the fact that Indians are now spending a smaller portion of their household incomes on food. International experience shows that rising incomes mean households spend a smaller slice of their total income on food. Discretionary spending becomes more important in a relative sense.

This fundamental shift in the structure of household spending has two consequences for the conduct of monetary policy. First, headline inflation will now be more stable than earlier, since volatile food prices will be less important in the overall CPI. Second, it would allow the Monetary Policy Committee of the central bank to pay more attention to core inflation in its analysis of price pressures in the economy.

A look at inflation data over the past 10 years shows that headline inflation has moved in sync with core inflation in some periods, while the two have diverged in other periods. The correlation coefficient of these two inflation measures has been 0.71, which shows that both headline inflation as well as core inflation have been influenced by common factors such as demand conditions, monetary policy, wage growth, profit markups and broader economic cycles.

But there are still episodes of divergence (or the missing 0.29) because food prices are subject to supply shocks such as heat waves or global food prices that are independent of underlying conditions in the domestic economy.

Volatility in headline inflation over the past 10 years, measured in terms of standard deviation, has been almost twice the volatility of core inflation. Headline inflation has bounced about while core inflation has been more stable. Core inflation has broadly been in the range of 4-5% since 2016, while headline inflation has moved between 1.3% and 7.5%.

A more stable headline inflation that moves in sync with core inflation will allow monetary policymakers to focus on the state of demand in the economy rather than respond to supply shocks. The structure of modern monetary policy is better designed to deal with the former than the latter.

In a recent paper, economists Ravindra H. Dholakia and Sri Virinchi S. Kadiyala make an interesting case for another measure of consumer price inflation based on the national income accounts used to calculate gross domestic product every quarter, rather than the current method of using data from the household expenditure survey that is conducted once every decade or more. (‘Which Inflation Should India Target? Rethinking The Monetary Policy Framework,’ Economic and Political Weekly, 17 January 2026).

The two economists have calculated a “counterfactual CPI” based on the national income accounts in which food has an even lower weightage than it does in the new CPI that is about to be launched: 31% as against 36.75%.

Dholakia and Kadaliya also argue that one of the advantages of using their alternative CPI would be that it enables government statisticians to move to a chain-based index of consumer prices, or one in which the weights assigned to various items move dynamically rather than get adjusted at one shot after a decade.

In short, a chain-weighted CPI will update the basket of goods and their weights regularly, based on what consumers are actually buying at that time, rather than going by a fixed basket from a base year, as is currently done. This prevents the index from overstating inflation by accounting for consumers switching to relatively cheaper substitutes when prices increase.

The switch to a new official CPI and discussions about how to measure inflation may seem like abstract statistical debates that interest only a few eggheads, but they have far-reaching consequences for the country’s interest rate policy that affects consumers, borrowers, investors and companies.

The author is executive director at Artha India Research Advisors.