Modelling the Relationship between Whole Sale Price and Consumer Price Indices: Cointegration and Causality Analysis for India

The study attempts to analyze the static and dynamic causality between producers' prices measured by wholesale price index (WPI) and consumers' prices measured by consumers' price index (CPI) in case of India. In doing so, we have applied the autoregressive distributed lag (ARDL) bounds testing approach to co-integration and robustness of the ARDL approach which is examined by Johansen and Juselius' (1990) maximum likelihood approach over the time period of 1950-2009. We found bidirectional causality between producers' and consumers' prices in Indian economy. Variance decomposition (VD) forecast analysis reveals that in India, producers' prices lead consumers' prices. This implies that WPI is determined by market forces and also a leading indicator of consumers' prices and inflation. This gives an indication to the Indian policy analysts to control for factors affecting WPI in order to have control on CPI since CPI is used for indexation purposes for many wage and salary earners including government employees and hence it will be helpful in cutting down the excess government expenditure.