6. Economics Notes 30

Elaborate Notes

Change in Methodology in CPI since 2022-23

The Consumer Price Index (CPI) is a crucial macroeconomic indicator used to measure inflation experienced by consumers. The methodology for its calculation, particularly for “core inflation,” has been refined to better reflect economic realities.

• Composition of CPI-Combined: The CPI-Combined index, which represents retail inflation for the entire country, is calculated based on a basket of goods and services with assigned weightages. The major groups and their approximate weights are:

  • (1) Food and Beverages: 45.9% - This is the largest component, making Indian inflation highly sensitive to food price fluctuations.
  • (2) Pan, tobacco, and intoxicants: 2.4%
  • (3) Clothing and footwear: 6.5%
  • (4) Housing: 10.1% - This component primarily reflects urban housing rents.
  • (5) Fuel and light: 6.8% - This includes items like electricity, LPG, and kerosene, but traditionally excluded transport fuels.
  • (6) Miscellaneous: 28.3% - A broad category including services like health, education, transport, and communication.

• The Concept of Core Inflation: Core inflation is a measure of inflation that excludes volatile components, typically food and fuel, from the headline inflation figure. The objective is to provide a clearer picture of underlying, long-term inflation trends, which is more relevant for monetary policy formulation. As the Reserve Bank of India’s (RBI) Monetary Policy Committee stated, core inflation helps in understanding the “persistence” of price pressures.

• Flaw in the Traditional Calculation: Traditionally, Indian economists and policymakers calculated core inflation by simply subtracting the ‘Food and Beverages’ group and the ‘Fuel and Light’ group from the headline CPI. However, this method was flawed in the Indian context due to the structure of the CPI basket.

  • Major transport fuel items, such as petrol and diesel for vehicles, were not included in the ‘Fuel and Light’ group.
  • Instead, these items were part of the ‘Transport and Communication’ sub-group, which falls under the broad ‘Miscellaneous’ group.
  • Consequently, when volatile fuel prices surged, their impact was not excluded from the traditional core inflation calculation, defeating its very purpose. This led to an overestimation of underlying inflation and presented a distorted view to policymakers.

• Introduction of “Refined Core Inflation”: To address this anomaly, a new measure termed “refined core inflation” was proposed and has gained acceptance. This concept was highlighted in the Economic Survey of India 2021-22.

  • Refined core inflation is calculated by excluding the ‘Food and Beverages’ group, the ‘Fuel and Light’ group, and key fuel items from the ‘Miscellaneous’ group (specifically petrol, diesel, lubricants, and other vehicle fuels).
  • This methodology provides a more accurate measure of the underlying price pressures in the economy by effectively removing the direct impact of all major volatile food and fuel components. The change since 2022-23 reflects a wider adoption of this more logical approach in economic analysis.

Poverty Estimation in India

The estimation of poverty in India has evolved over decades, with methodologies changing to reflect new data collection techniques and conceptual understandings of poverty. Absolute poverty is measured based on a poverty line, which represents the minimum level of income or consumption deemed necessary to achieve an adequate standard of living.

• 1) Uniform Recall Period (URP):

  • Methodology: The National Sample Survey Office (NSSO), now the National Statistical Office (NSO), used this method until its 50th round (1993-94). Under URP, surveyors would ask households to recall their consumption expenditure on all items (both food and non-food) over a uniform period of the preceding 30 days.
  • Historical Context: This was the standard method used by early committees like the Lakdawala Committee (1993). However, it was criticized for potential recall errors, especially for infrequently purchased items (like clothing or durable goods), where a 30-day window might not capture typical spending patterns. Conversely, for high-frequency items (like vegetables), a 30-day recall could be less accurate than a shorter period.

• 2) Mixed Recall Period (MRP):

  • Methodology: Acknowledging the limitations of URP, the NSSO introduced MRP from its 55th round (1999-2000). This method uses different recall periods for different categories of items to improve accuracy.
    • 365-day recall period: Used for five low-frequency non-food items: clothing, footwear, durable goods, education, and institutional medical expenses.
    • 30-day recall period: Used for all remaining items, including all food items, fuel, rent, and other miscellaneous goods and services.
  • Significance: The shift to MRP generally resulted in higher reported consumption expenditure, as it better captured spending on infrequent but significant items. This, in turn, led to lower poverty estimates compared to the URP method for the same population.

• 3) Modified Mixed Recall Period (MMRP):

  • Methodology: This is a further refinement proposed by the Rangarajan Committee (2014) to capture consumption patterns even more accurately. It introduces a third, shorter recall period for specific food items.
    • 365-day recall period: For the same five non-food items as in MRP (clothing, footwear, education, institutional medical care, durable goods).
    • 7-day recall period: For perishable and frequently consumed food items like edible oil, eggs, fish, meat, vegetables, fruits, spices, and processed foods.
    • 30-day recall period: For the remaining items, including other food items, fuel and light, rent, etc.
  • Rationale: The 7-day recall for perishables is considered to provide a more precise estimate of food consumption, reducing memory-related errors. The use of MMRP tends to yield the highest estimate of consumption expenditure among the three methods.

Committees on Poverty Estimation

• Suresh Tendulkar Committee (2009):

  • Context: Constituted in 2005, the committee was tasked with reviewing the methodology for poverty estimation. The prevailing method, based on the Lakdawala Committee’s recommendations, was criticized for having an outdated consumption basket and for using different poverty lines for rural and urban areas that were not comparable.
  • Key Recommendations:
    1. Shift from Calorie Norm: It moved away from a purely calorie-based poverty line, arguing that poverty is about deprivation in consumption of a wider basket of goods and services, not just food.
    2. Uniform Poverty Line Basket (PLB): It used a uniform all-India urban PLB and applied it to rural areas as well, adjusting only for price differentials (using price indices). This was a major departure, aimed at making poverty estimates comparable across regions and sectors.
    3. Inclusion of Private Expenditure: The committee’s PLB explicitly included private expenditure on health and education, recognizing their growing importance as essential expenses for households.
    4. Shift to MRP: It used the Mixed Recall Period (MRP) consumption data from the NSSO, which was considered more accurate than the old URP data.
    5. Poverty Estimate: Based on its methodology, the committee estimated the Head Count Ratio (HCR) for India at 21.9% for the year 2011-12.

• Rangarajan Committee (2014):

  • Context: This committee was set up in 2012 following widespread criticism that the Tendulkar poverty line was too low and did not reflect the reality of deprivation in the country.
  • Key Recommendations:
    1. Revised Methodology: It reverted to having separate Poverty Line Baskets for rural and urban areas, arguing that consumption patterns are significantly different.
    2. Broader Nutritional Norms: Instead of just calories, it considered norms for calories, protein, and fats to determine the food component of the PLB.
    3. Use of MMRP: The committee recommended using the Modified Mixed Recall Period (MMRP) data for estimating consumption expenditure, believing it to be the most accurate method.
    4. Higher Poverty Line: Its methodology resulted in a higher poverty line than Tendulkar’s. For 2011-12, the per capita monthly expenditure was set at ₹972 for rural areas and ₹1,407 for urban areas.
    5. Poverty Estimate: Consequently, it estimated a much higher HCR of 29.5% for 2011-12. The government has not officially adopted the Rangarajan Committee’s report, and the Tendulkar Committee’s estimates remain the last officially accepted figures.

Poverty and Growth

The relationship between economic growth and poverty reduction is a central theme in development economics. While growth is a powerful tool, it is not a panacea.

• The Pro-Growth Argument: The fundamental argument, often associated with the “trickle-down” theory, is that a rising tide of economic growth lifts all boats. Growth increases national income, creates employment opportunities, and expands the government’s tax base, enabling higher spending on social services like health and education. Scholars like Jagdish Bhagwati have been strong proponents of a growth-led strategy for poverty reduction in India.

• Critique and Nuances (Amartya Sen’s Capability Approach): The direct link between growth and poverty reduction is not automatic. Nobel laureate Amartya Sen, in works like Development as Freedom (1999), argues that poverty is not just a lack of income but a deprivation of capabilities. The conversion of income into well-being and freedom depends on several factors, leading to three key counterarguments:

  1. Poverty is Multidimensional: Poverty encompasses deprivations beyond income, including poor health, lack of education, social exclusion, and absence of political freedoms. Economic growth alone may not address these dimensions.
  2. Enabling Factors are Crucial: The ability of the poor to participate in and benefit from growth depends on enabling factors. These include access to basic education and healthcare (human capital), micro-credit facilities, equitable land reforms, social safety nets, and legal rights. Without these, growth can be exclusionary.
  3. Public Action is Necessary: The fruits of economic growth are not automatically channeled into social sectors. It requires deliberate state policy. The example of South Korea vs. Brazil is illustrative. Both pursued high growth, but South Korea invested heavily in public education and healthcare, leading to more equitable outcomes (“growth with equity”). In contrast, Brazil’s growth was accompanied by rising inequality for a long period. However, the summary also notes South Korea’s neglect of social security, which exposed its vulnerability during the 1997 Asian financial crisis.

• Poverty Elasticity of Growth: This is a measure of how much poverty falls for every one percent increase in GDP per capita.

  • In India, particularly in the post-1991 reform period, the poverty elasticity of growth has been observed to be relatively low. This suggests that the benefits of growth have not “trickled down” effectively to the poorest sections of society.
  • Empirical studies suggest this is due to a lack of assets (land, human capital), which prevents the poor from connecting to new economic opportunities. Jobless growth or growth concentrated in high-skill sectors can exacerbate this problem.
  • This has led to a policy focus on direct interventions like MGNREGA and social pension schemes to provide a safety net for those left behind by the growth process.

Limitation of Headcount Non-Discriminatory Approach

The most common measure of poverty, the Head Count Ratio (HCR), simply calculates the percentage of the population living below the poverty line. While easy to understand, it has a significant limitation.

• Insensitivity to the Depth of Poverty: As Amartya Sen argued in his seminal 1976 paper, “Poverty: An Ordinal Approach to Measurement,” the HCR is insensitive to the degree of poverty. It treats a person earning just one rupee below the poverty line the same as a person who is destitute with zero income. For example, if the poverty line is ₹50, the HCR does not distinguish between a person earning ₹45 and another earning ₹25. Both are simply counted as “poor”.
• The Need for Discrimination: This non-discriminatory nature means that policies aimed at merely reducing the HCR might focus on lifting those who are just below the poverty line, as it is the easiest way to show a reduction in the headcount. This approach neglects the poorest of the poor. Sen’s work led to the development of more sophisticated poverty measures, such as the Poverty Gap Index (which measures the depth of poverty) and the Squared Poverty Gap Index (which also accounts for inequality among the poor), developed by Foster, Greer, and Thorbecke (1984). These measures “discriminate” by giving more weight to individuals who are further below the poverty line.

Critical Evaluation of Strategy for Poverty Alleviation

India’s poverty alleviation strategies have been a mix of growth-led approaches and direct intervention programs. However, they face several critical shortcomings.

• Blindness to Secondary Poverty: The focus has been on “primary poverty,” a condition where income is insufficient to meet basic needs. The concept of “secondary poverty,” first systematically studied by Seebohm Rowntree in his surveys of York, England, at the turn of the 20th century, is often overlooked. Secondary poverty occurs when income is technically sufficient, but is misspent on non-essentials like alcohol, tobacco, or gambling, leading to deprivation. Indian policies rarely address the behavioural aspects that can perpetuate poverty.
• Neglect of Specific Vulnerable Groups: Programs are often designed with a “one-size-fits-all” approach and fail to adequately target the disabled, chronically sick, or other socially handicapped individuals who cannot participate in conventional employment-based schemes.
• Resource Depletion and Anti-Poor Policies: Many of India’s poor, particularly tribal communities, have traditionally depended on common property resources like forests for their livelihood. However, environmental degradation and restrictive laws (such as certain provisions of colonial-era forest acts) have eroded this resource base, pushing them deeper into poverty. Policies have often failed to reverse this trend, despite measures like the Forest Rights Act, 2006.
• Inadequacy of the Household Approach: The dominant strategy has focused on providing self-employment (through credit-linked schemes) or wage employment (like MGNREGA) to households. This approach is insufficient in the face of structural problems like disguised unemployment in agriculture, fragmented landholdings, and a lack of skills necessary for the modern economy.
• Need for “Group Power”: Individual- or household-centric approaches often fail because the poor lack bargaining power. Due to inefficient credit markets and exploitative local power structures, there is a need to build “group power.” This can be achieved through institutions like Self-Help Groups (SHGs), cooperative farming, and producer organizations, which can improve access to credit, inputs, and markets, and enhance the collective agency of the poor.

Multi-Dimensional Poverty Index (MPI)

The MPI is a significant shift away from a purely monetary understanding of poverty towards a more holistic, multidimensional one.

• Origin and Philosophy: It was developed in 2010 by the United Nations Development Programme (UNDP) and the Oxford Poverty and Human Development Initiative (OPHI). It is rooted in Amartya Sen’s capability approach and measures acute poverty by capturing severe deprivations a person faces simultaneously across different dimensions.
• Dimensions and Indicators: The Global MPI assesses poverty across three dimensions, using ten indicators:
  1. Health (Weight: 1/3):
     • Nutrition (A household is deprived if any child or adult is undernourished). (Weight: 1/6)
     • Child Mortality (A household is deprived if any child has died in the five years preceding the survey). (Weight: 1/6)
  2. Education (Weight: 1/3):
     • Years of Schooling (A household is deprived if no member has completed at least six years of schooling). (Weight: 1/6)
     • School Attendance (A household is deprived if any school-aged child is not attending school). (Weight: 1/6)
  3. Standard of Living (Weight: 1/3):
     • Cooking Fuel (Deprived if using dung, wood, or charcoal). (Weight: 1/18)
     • Sanitation (Deprived if sanitation facility is not improved or is shared). (Weight: 1/18)
     • Drinking Water (Deprived if no access to improved drinking water or it is a >30-minute walk away). (Weight: 1/18)
     • Electricity (Deprived if the household has no electricity). (Weight: 1/18)
     • Housing (Deprived if housing materials are inadequate). (Weight: 1/18)
     • Assets (Deprived if the household does not own more than one of a list of assets and does not own a car). (Weight: 1/18)
• Poverty Cut-off: A person is identified as “multidimensionally poor” if they are deprived in at least one-third (33.33%) of the weighted indicators.
• Comparison: Tendulkar vs. MPI:
  • Nature: Tendulkar’s method is a unidimensional monetary measure, focusing on consumption expenditure. MPI is a multidimensional non-monetary measure focusing on deprivations.
  • Approach: Tendulkar’s method is an input-based approach; it assumes that if a person has a certain level of income/consumption, they can access basic amenities. MPI is an outcome-based approach; it directly measures whether a person actually has access to these amenities, regardless of their income.

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Prelims Pointers

• CPI-Combined Weightages (Approximate):
  • Food and Beverages: 45.9%
  • Miscellaneous: 28.3%
  • Housing: 10.1%
  • Fuel and light: 6.8%
  • Clothing and footwear: 6.5%
  • Pan, tobacco, and intoxicants: 2.4%
• Core Inflation: A measure of inflation that excludes volatile items like food and fuel.
• Refined Core Inflation: Excludes ‘Food and Beverages’, ‘Fuel and Light’, and also transport fuels (petrol, diesel) which are under the ‘Miscellaneous’ group.
• Uniform Recall Period (URP): Consumption data for all items collected for a 30-day recall period. Used by NSSO until 1993-94.
• Mixed Recall Period (MRP):
  • 365-day recall for: Clothing, footwear, durable goods, education, institutional medical expenses.
  • 30-day recall for all other items.
• Modified Mixed Recall Period (MMRP):
  • 365-day recall for: Clothing, footwear, education, institutional medical care, durable goods.
  • 7-day recall for: Edible oil, eggs, fish, meat, vegetables, fruits, etc.
  • 30-day recall for remaining items.
• Suresh Tendulkar Committee (2009):
  • Recommended shifting from URP to MRP for poverty estimation.
  • Used a uniform poverty line basket for both rural and urban areas.
  • Included private expenditure on health and education.
  • Estimated poverty at 21.9% for 2011-12.
• Rangarajan Committee (2014):
  • Recommended using the MMRP method.
  • Used separate poverty line baskets for rural and urban areas.
  • Included norms for calories, protein, and fat.
  • Estimated poverty at 29.5% for 2011-12.
• Poverty Elasticity: Measures the percentage reduction in poverty for a one percent increase in per capita GDP.
• Universal Basic Income (UBI): A form of social security where all citizens or residents of a country regularly receive an unconditional sum of money.
• Secondary Poverty: A condition where income is sufficient to meet basic needs, but is spent on non-essentials, leading to deprivation.
• Multi-dimensional Poverty Index (MPI):
  1. Developed by: UNDP and Oxford Poverty and Human Development Initiative (OPHI).
  2. Three Dimensions: Health, Education, Standard of Living.
  3. Number of Indicators: 10.
  4. Poverty Cut-off: A person is considered MPI-poor if deprived in 1/3rd (33.33%) or more of the weighted indicators.

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Mains Insights

The Debate on Poverty Measurement and its Policy Implications

The varying poverty estimates from the Tendulkar (21.9%) and Rangarajan (29.5%) committees highlight a fundamental debate in Indian policymaking. The choice of methodology (MRP vs. MMRP, uniform vs. separate baskets) is not merely academic; it determines the official number of poor, which in turn influences the scale and targeting of welfare schemes. The government’s reluctance to accept the Rangarajan report and the absence of official poverty data post-2011-12 create a policy vacuum, making it difficult to assess the impact of economic policies on poverty. This underscores the need for a politically neutral and technically robust mechanism for periodic poverty estimation.

Growth, Poverty, and the Imperative of Inclusivity

• Cause-Effect Relationship: While economic growth is a necessary condition for poverty reduction, it is not sufficient. The low poverty elasticity in post-reform India demonstrates the failure of the ‘trickle-down’ theory. Growth concentrated in capital-intensive sectors with limited employment generation can lead to rising inequality, excluding the poor from its benefits.
• Historiographical Viewpoint: The debate between the ‘growth-mediated’ approach (Bhagwati) and the ‘support-led’ approach (Sen) is central to India’s development trajectory. The current policy consensus on “inclusive growth” represents a synthesis of these views, acknowledging that growth must be accompanied by investments in human capital (health, education) and social safety nets (MGNREGA, PDS) to be truly effective in poverty reduction.
• Mains Question Insight (Inclusive Growth under Market Economy):
  • A market economy can foster inclusive growth, but it requires strong state intervention to correct market failures and ensure equity.
  • Significance of Financial Inclusion: It is a critical enabler. It provides the poor with access to credit for entrepreneurship, savings instruments for resilience against shocks, and insurance for risk mitigation. Schemes like PM-Jan Dhan Yojana, by creating a formal financial identity, are the first step in connecting the poor to the growth process and enabling effective delivery of welfare benefits (Direct Benefit Transfer).
  • Mechanisms for Inclusivity:
    1. Redistribution: Progressive taxation to fund public services and social security.
    2. Regulation & Corporate Governance: Enforcing Corporate Social Responsibility (CSR) and ensuring businesses follow ethical practices.
    3. Investment in Human Capital: Prioritizing public spending on primary education and healthcare to break inter-generational poverty traps.
    4. Empowerment: Strengthening political rights, ensuring access to resources (e.g., land reforms, Forest Rights Act), and promoting ‘group power’ through SHGs and cooperatives.

Universal Basic Income (UBI): A Radical Alternative?

UBI is increasingly debated as a potential solution to poverty and economic insecurity.

• Potential as a Game-Changer: UBI offers a paradigm shift from a complex web of subsidies and schemes to a single, unconditional cash transfer. This could reduce administrative overhead, eliminate leakages, and empower individuals with choice and agency. It acts as a safety net that promotes risk-taking and entrepreneurship.
• Fiscal and Economic Challenges: The primary concern is fiscal feasibility. As discussed in the Economic Survey 2016-17, a UBI that is meaningful enough to reduce poverty would be fiscally prohibitive unless it replaces existing subsidies (food, fuel, fertilizer). This raises difficult political questions. Other risks include potential inflationary pressures if production does not keep pace with increased demand, and a possible reduction in the labour force participation rate, though evidence on this is mixed.

Beyond Monetary Poverty: The Shift to a Multidimensional Approach

• Limitations of Income-Based Measures: The headcount ratio and other income-based measures fail to capture the lived reality of poverty. A person just above the poverty line may still lack access to clean water, sanitation, or education. This is the core argument for adopting a multidimensional framework.
• Significance of the MPI: The MPI provides a more granular and comprehensive picture of poverty. It helps policymakers identify not just who is poor, but how they are poor. For instance, it can reveal if poverty in a region is driven more by educational deficits or by poor living standards. This allows for more targeted and effective policy interventions, aligning with the integrated nature of the Sustainable Development Goals (SDGs), particularly SDG 1 (No Poverty). The adoption of a National MPI by NITI Aayog is a positive step in this direction.