IIP numbers: Lessons learnt from the GDP experience: Financial Express May 8, 2017

Reviewing base years for various indicators—IIP, WPI, GDP, CPI—should be a continuous process and not a one-shot exercise, with the goal to have the same base year for all variables

Given the complexity of any economy, aggregating goods and services under any head is always challenging. This is so as in a dynamic world these components keep moving in and out of the production and consumption streams. Hence, while any economic measure, from GDP to a price index, is constructed based on a predefined set of goods and services, the baskets have to be revised regularly to reflect the changing reality. Thus, there is always a case for revising indices periodically and this is what has been done for the GDP to bring it forward to a base year of 2011-12. Axiomatically, it follows that other indices too should be benchmarked with a similar year to maintain comparability.

At present, the IIP and WPI use base years of 2004-05 while GDP and CPI have an advanced base year. Prima facie, comparing GDP components with their equivalents in the IIP could be incorrect as they could be referring to different baskets of goods.

Further, a base year going back 12 years could be misleading because there is always a fixed set of goods that go into the calculation of any economic variable that can be an index or the GDP, which are then tracked periodically. There could be some goods that are no longer relevant or there could be others coming in, which did not exist in 2004-05. It is for this reason that the Central Statistics Office (CSO) has been working on revising the base year for reckoning both the IIP and WPI to 2011-12.

A base year should be a normal year, where there were no disturbances and the noise factor was low and did not cause any distortion. And 2011-12 is the best possible contemporary year as subsequently the economy did go through a variety of challenges which caused volatility in economic variables. For the IIP, the change in base year is compelling and it would be interesting to see as to how the numbers look when the new base year is invoked.
Such a revision would also cover a new basket of commodities and assign differential weights to them. Hence, typewriters and floppy diskettes should be out and mobile handsets and other electronic gadgets in and so on. It is hoped that the discrepancy that exists between the GDP and IIP numbers, which has raised several questions, would narrow down.

The accompanying table provides growth rates for the IIP counterparts, which have always been an enigma for the analyst as it has been difficult to rhyme the two series. The table clearly shows that there is a major disconnection between the physical growth numbers as denoted by the IIP and value-added numbers (at constant prices) as denoted by GDP numbers. Ideally, they should move in the same range as value addition at constant prices should address the price factor and broadly reflect physical growth.

This discrepancy holds across all three sectors and is stark for manufacturing and mining. If physical production is not increasing sharply but value addition is, then either the two entities have different components or that there is migration to higher value-addition commodities. Often, it is argued that if there are more Audiand BMW cars on the roads, the physical numbers may not be increasing sharply, but the value addition would he higher. Alternatively, there is higher monetary value for salaries (which is not the case) or profit (which has not been stark of late) as the GVA is based on numbers from the profit and loss accounts of companies where value added is, broadly speaking, the sum of gross profits and salaries and wages.

Hence, the new series to be released by the CSO would be interesting as it is hoped that these discrepancies between the GDP and IIP numbers would narrow down. Typically, a new series should clean up the existing series by dispensing with or lowering the weight of products that are not too relevant and including new ones.
The other challenge for any update in indices pertains to flow of data. Data is normally procured from industry associations or based on direct reports filed by companies. Systems have to be built in to ensure that there are fewer cases of data not being provided by the entities. At times, indices do not change for several months, and when they do, denote extreme growth numbers.

The problem is acute especially where the unorganised sector comprising SMEs is dominant in terms of contribution to overall output but has unstructured reporting patterns. It is also expected that the CSO would be using the fresh series of data, which would come in once the GST is introduced, to work backwards on the production numbers as a large part of the unorganised sector would be expected to get included in the mainstream.

A takeaway from the new GDP numbers that were released last time was that, to maintain credibility, it is absolutely essential for the CSO to provide a back-series. This became important because the GDP growth numbers looked healthier than the impressionistic view one had on the economy, and while there was theoretically no flaw in the approach of the CSO, the numbers were hard to digest. In 2013-14, when the economy went through very hard times, the growth was 6.7%, which appeared to be a major anomaly. Hence, it may be hoped that the CSO would address this issue especially if the new IIP number is significantly different from the current series which indicates a virtual zero number in growth for the first 11 months.

The move to a new base year and index is progressive and it can be expected that the same will be done for the WPI too. Also, there will soon be a compulsion to revise the base year once again, as 2011-12 is already lagged by five years, and while a new normal year is yet to be identified, in our context where there are several changes taking place in the way in which goods will be traded (National Agriculture Market), tracking of transactions (demonetisation plus GST) and trade flows, the frequency of change in such benchmarks will have to be more regular to be relevant. Hence, reviewing these base years for various indicators should be a continuous process and not a one-shot exercise, with the future goal being to have the same base year for all variables.