What is inflation and how it is calculated?

First let me tell you what is Inflation? Then I will discuss, how food inflation is calculated. You might have heard old persons talking about how different things were when they were of your age. For example, it used to cost 50 paise to buy a cup of tea 20 years back, which costs 4 rupees now a days. When I started driving, the petrol price in India was 35 Rupees per litre. Now a days, one litre petrol may  cost you around 70 Rupees. That’s called inflation. You can also call it price rise. Inflation is when a certain form of currency starts  to have less value over time. The lesser value of currency causes increase in the average level of prices for goods and services. In  other words, it is an index which represents how prices of goods and services as a whole are growing.

Let us take an example, Price of 1 litre of Petrol on 1st January 2000 was Rs 30. If the inflation is 10 % then the price of 1 litre petrol  after 1 year (i.e on 1st January 2001) will be Rs 20 + Rs 2 = 20 + 2 = Rs 22. This means, you need Rs 22 to buy the same 1 litre petrol  after 1 year just because inflation is 10% annually. In other words, you can’t buy the same 1 litre petrol with your Rs 20 money  anymore, which you could buy in year 2000.  This means that the purchasing power of your ‘money’ got reduced.

India uses Wholesale Price Index (WPI) as a central measure of inflation. The Wholesale Price Index (WPI) is the price of a  representative basket of wholesale goods.

The wholesale price index (WPI) is calculated based on the wholesale price of a few relevant commodities. It measures the average  of the changes of goods and services price on the basis of wholesale price. Presently 435 commodities price level is being tracked  through whole sale price index in India. It is also the price index which is available on a weekly basis with the shortest possible time  lag of only two weeks. India considers 1993-94 financial year as base year for present WPI index calculation.

The 435 commodities are divided into different groups & sub groups.

Here are the different components along with their weightage in Wholesale Price Index (WPI).