GDP Deflator vs CPI: Two Ways to Measure Inflation

How the GDP deflator and the consumer price index measure price changes differently, and why they sometimes tell different stories.

Inflation seems simple: prices rise. But which prices? Economists use several measures, and they can give different answers.

The consumer price index

The CPI tracks the prices of a fixed basket of goods and services bought by typical households, such as food, housing, clothing, transport and health care. In India, the CPI is compiled by the Ministry of Statistics and is the main measure the RBI uses for its inflation target. India has revised its CPI to a newer base year, 2024, with a basket reflecting modern spending patterns.

The GDP deflator

The GDP deflator measures price changes for all goods and services produced in the economy, not just those consumers buy. It is calculated as:

GDP deflator = (Nominal GDP / Real GDP) x 100

It includes prices of investment goods, government services and exports, and excludes imports.

Key differences

Coverage: CPI covers consumer purchases; the deflator covers everything produced domestically.
Imports: CPI includes imported goods that consumers buy; the deflator excludes imports.
Basket: CPI uses a fixed basket updated periodically; the deflator changes automatically with what is produced.
Frequency: CPI is published monthly; the deflator quarterly.

Why they diverge

Oil prices: India imports most of its oil. A rise in oil prices raises CPI through fuel costs but affects the GDP deflator less directly.
Food: food has a large weight in India’s CPI, so food price spikes raise CPI more.
Capital goods: price changes in machinery affect the deflator but not CPI.

Wholesale prices

India also publishes the Wholesale Price Index, which tracks prices of goods at the wholesale level, mainly commodities and manufactured goods, but not services.

Why it matters

Using the wrong measure can mislead. For example, when the GDP deflator is very low, real GDP growth can appear high even if consumers feel prices rising.

An oil shock

Global oil prices double. Petrol and cooking gas prices rise, pushing up CPI inflation. But since India imports its oil, the GDP deflator, which measures prices of domestic production, rises less. The two measures tell different stories about the same year.

Thinking there is only one inflation rate

Different indices measure different sets of prices. Each is useful for different purposes.

Key takeaways

CPI tracks a fixed basket of consumer goods and services.
The GDP deflator covers all domestic production and excludes imports.
They diverge because of imports like oil, food weights and capital goods.
India also publishes a Wholesale Price Index.