Double deflation debate over GDP methodology is no ‘great battle’

Why in the News

The Vice Chairman of NITI Aayog, the government’s economic think tank, has said there is no winner in the ongoing dispute over the use of double deflation in India’s new gross domestic product (GDP) series, and that the methodology is neither impractical nor particularly difficult to implement. The statement answers concerns raised a week earlier by a former Finance Secretary and a former Chief Statistician over the method used to double deflate GDP under the new series. The tension is that the methodology being questioned is the same one that produces growth rates lower than the series it replaced, which is why the Vice Chairman asked why the scrutiny is arriving only now.

What is double deflation?

1. The method: Double deflation removes the effects of inflation at both the producer and the consumer expenditure stages when arriving at the real GDP of an economy.
2. What it requires in practice: The inputs a producer buys have to be separated from the outputs the producer sells, and each set is deflated by its own price index.
3. Where it stands internationally: The method is widely used across national statistical systems.

What has changed in India’s GDP series?

1. The new base year carries the new method: The Ministry of Statistics and Programme Implementation (MoSPI), the nodal ministry for official statistics, introduced double deflation in the GDP series with 2023-24 as the base year.
2. The earlier series did not use it: Double deflation was not part of India’s 2011-12 GDP series.
3. The output looks different: GDP growth rates in the new series, based on 2023-24 prices, are lower than those under the earlier series with 2011-12 as the base year.

How is the dispute framed?

1. The government think tank’s position: Deflating the price effects at the producer and the consumer expenditure stages of GDP is not a great battle, and double deflation is not a methodological impossibility.
2. The practical claim: All that is required is to separate the inputs from the outputs, the method can of course be improved like anything else, and it is a good time to start.
3. The timing objection: The Vice Chairman asked why the methodology had not come under similar scrutiny when the earlier series was in use, and why the concerns are being raised only now.
4. What the critics raised: A former Finance Secretary and a former Chief Statistician had, a week earlier, questioned the methodology used to double deflate GDP under the new series.

Challenges to measuring real GDP under double deflation

1. India lacks a full producer side price index: Deflating inputs correctly requires a producer price index, and the wholesale price index that stands in for it covers goods alone. Eg. Services account for over half of gross value added but have no wholesale price index representation.
   The Fix: Complete and release a producer price index covering services, as recommended by the working group set up to design one.
2. Informal output is estimated rather than measured: A large share of value added comes from unincorporated enterprises whose input costs are inferred from survey benchmarks rather than observed. Eg. The unincorporated sector enterprise survey is conducted at multi year intervals, so intervening years are interpolated.
   The Fix: Move the unincorporated enterprise survey to an annual cycle so input cost ratios are updated each year rather than carried forward.
3. The method amplifies error in volatile quarters: Subtracting one deflated series from another magnifies any mismatch between the two price indices used. Eg. A sharp swing in crude prices moves input costs long before it moves output prices in refining and petrochemicals.
   The Fix: Publish the input and output deflators alongside the headline estimate so the source of any swing is visible to users.
4. A base year change breaks comparability: Growth rates computed on a new base and a new method cannot be read directly against the old series. Eg. The shift to the 2011-12 series produced a comparable dispute over back series estimates.
   The Fix: Release a full back series on the new base and method, so the change in level is separated from the change in growth.

Conclusion

The dispute is about measurement, not about performance, and both sides accept that removing inflation twice is the internationally accepted way to compute real output. What is unresolved is whether the price data India collects can support the method at the level of detail it demands. That is a question about the statistical system’s inputs rather than about the arithmetic applied to them. The marker to watch is whether the producer price index that the method depends on is released alongside the new series.

Matching Previous Year Question

“[2021, GS3, 10.0 marks] Explain the difference between computing methodology of India’s Gross Domestic Product(GDP) before the year 2015 and after the year 2015.”