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Core Inflation

Core Inflation:

According to economists, core inflation is likely to remain low, around 3% in the near term, owing to weak rural demand, softness in housing inflation and lower input cost pressures.

  • Core Inflation is the change in the costs of goods and services excluding the price variations in seasonal elements, such as those related to food and energy.
  • Food and energy prices are exempt from this calculation because their prices can be too volatile or fluctuate wildly. Core inflation represents the long-term trend in the price level.
  • It is used to determine the impact of rising prices on consumer income.
  • To deal with such situations, many central banks use measures of core inflation that are designed to filter transitory price movements.
  • If the increase in the price index is due to temporary shocks that could soon reverse themselves, it may not require any monetary policy action.
  • On the other hand, prices of other commodities do not fluctuate as regularly as those of food and fuel: as such, an increase in their prices could be taken relatively to be much more of a permanent nature.
  • It follows logically for Central Banks to target only core inflation, as it reflects the demand-side pressure in the economy.
  • Core inflation, by eliminating the volatile components from the headline helps in identifying the underlying trend in headline inflation and is believed to predict future inflation better.
  • Whenever core inflation rises, Central Banks increase their key policy rates to suck excess liquidity from the market, and vice versa. It is, therefore, a preferred tool for framing long-term policy.