Core inflation for India

Abstract

In this study, a variety of core inflation measures are constructed using exclusion method, limited influence method, and a common trends model. We examine certain desirable properties of estimated core inflation and present evidence against the use of those measures obtained from exclusion and limited influence methods as an indicator of future inflationary trend. Nevertheless, the core inflation measure obtained from a common trends model is found to be unbiased to headline inflation, less volatile, highly correlated with growth rate of M3 money, cointegrated with headline inflation, and a powerful attractor of headline inflation. In sum, the evidence suggests that overemphasizing exclusion-based core inflation measures for its simplicity might be misleading whereas model-based core inflation measure is found to be a useful predictor of future inflationary trend. © 2007 Elsevier Inc. All rights reserved.