Asia-Pacific Sustainable Development JournalVol. 26, No. 198
It can be clearly seen that the actual inflation diverges widely from the projected inflation only when there is a food price shock (positive or negative. The food price shock is positive
when food prices are rising, and negative when food prices are falling.
It is also evident that even if the food price shock continues
fora prolonged period, the projected inflation (headline inflation) is either underestimated or overestimated systematically. The phases of food price shocks and the divergence between actual and projected inflation are highlighted in the figure 9. This clearly implies that the second round effects of the food price shock (food prices feeding
into headline price index,
which in turn gets transmitted
to the core inflation, are the reason behind the widened forecast error of the inflation forecast of the Reserve Bank of India.
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