RAS question
The concept of 'Base Effect' in inflation measurement refers to:
Correct answer: (C) The impact of last year's inflation rate on the current year's calculation.
In inflation measurement, the base effect is the impact of the previous year's corresponding price level on the current year's year-on-year inflation calculation.
Explanation
The base effect matters because year-on-year inflation compares the current price level with the price level in the same period of the previous year. The RBI report notes that year-on-year inflation may not always show the current price pressure clearly, since changes in the inflation rate can also reflect changes in prices in the previous year, commonly called the base effect. Therefore, if last year's corresponding prices were unusually high, the current year's year-on-year inflation can appear lower even without a strong fall in present prices; if last year's base was unusually low, current inflation can look higher. This is why the concept refers to the influence of last year's inflation or price level on the present calculation, not to policy foundations or commodity base prices.
Why the other options are wrong
- (A) Changing the base year of a price index is a separate index-construction issue, while base effect concerns how last year's corresponding price level affects year-on-year inflation.
- (B) The base effect is a statistical feature of inflation measurement, not the foundation or operating principle of monetary policy.
- (D) Base effect does not mean the base price of essential commodities; it refers to the previous year's comparison point in calculating year-on-year inflation.
Concept
This tests inflation measurement, especially the interpretation of year-on-year price indices. It recurs in RAS because questions on inflation often ask whether a reported rise or fall reflects current price pressure or a statistical comparison effect.