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Chain inflation


By Fil C. Sionil

One issue of significance currently circulating around the market place is the shift of computing inflation. The Philippine Statistics Authority (PSA) is said to be seriously studying adoption of the chain methodology. This perked up my interest in exactly how this works.

Maybe it’s the millennium fever as well as the emergence of cutting-edge technology, which created new buying fondness for consumers. Keeping in mind the changing preference of buyers, including, of course, their purchasing power, the  PSA may will consider the use of the chain approach as another methodology in calculating the inflation. Defined as the sustained increase in the prices of goods and services, inflation or a rise in the consumer price index (CPI) is correlated to the purchasing power of the peso.

There’s nothing extra creative here. It’s nothing new altogether. Chain methodology basically reflects the choice of consumers based on the movement of the prices of commodities in the basket of goods. It shows  a  grasp of what matters most to the buyers.

Under the existing approach, CPI is generated by the PSA with 2006 as the base year. Its  computation is based   on the change in the average price of the basket of goods between two periods, e.g., month-on-month or year-on-year.

In the chain methodology, inflation is calculated taking into account product substitutions made by consumers. It tracks the shift in buyer’s choice due in part to price movements, both up and downward adjustments, and the changes in the expenditure pattern. As an illustration, a consumer usually buys a kilo of chicken at P150 and two kilos of fish at P100 per kilo. But if  the price of chicken drops to R100 and fish goes up to P150 per kilo, the consumer, instead, will buy two kilos of chicken and a kilo of fish.

The chain-weighted CPI approach considers the switch due to the drop in the price. Thus, the rate is zero because the total amount is spent is unchanged.

From what I’ve heard, chain inflation methodology will come into play this coming year.

Market analysts have mixed feelings about the chain approach. Some believed it “can be an accurate measure of the price of one commodity but an inaccurate one for the other since such approach also looks at a change in consumer  behavior to look for substitutes when the price of what they buy increases.”

Others say, “It is too early to say if this is the best approach. There are pros and cons to this new approach.”

Will it make a lot of difference as well as affect the monetary setting policy, which is based on inflation targeting? The answer is no.  BSP Deputy Governor for monetary stability Diwa Guinigundo assures this. “The components of the basket do not have to be changed often because chaining will establish the continuity of  the series. I don’t think it will influence the conduct of the monetary policy.”

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