RBI says it can't figure out IIP maths

The Reserve Bank of India has voiced concern over the high volatility in the industrial production numbers, which is sure to bring greater focus on the integrity of data put out by Indian agencies as it comes within a month of an embarrassing mistake in first quarter GDP estimates. 

Experts, however, say fluctuations in macroeconomic indices have more to do with methodology than with faulty data. “The high volatility (in the index of industrial production, or IIP) over the past two months raises some doubts about how effectively the index reflects the underlying momentum in the industrial sector,” RBI said in a press release. 

Industrial output grew 13.8 % in July, much above the consensus estimate of 7-8% and 5.67% growth seen in June, thanks to a 63% increase in capital goods output. The capital goods index jumped 42% month-on-month.The sharp increase in capital goods production comes as a surprise as industries were seen operating at their normal full capacity.“IIP going up again seems a statistical puzzle,” says Mridul Saggar, chief economist at Kotak institutional securities. 

“Our analysis would peg capital goods growth at around 22% which would imply an IIP growth of 8.8%,” said Mr Saggar. However, the country’s chief statistician TCA Anant said data was not to be blamed. 

“Volatility has been built into the way IIP is constructed,” he said adding that capital goods series has been volatile and its volatility has increased over the years. Construction of the IIP involves identifying important units, ones that account for around 70% of overall production, to get a fair representation of growth. 

This selection is based on the situation at the time the index is constructed, or the base year of the index. As we move further away from the base year, the index becomes less and less representative of the actual production in the economy. 

In the case of the capital goods industry a few companies account for a major share production, as the production process is capital intensive and needs economies of scale. 

This peculiar nature of the capital goods industry results in high volatility because a few large orders can change the numbers drastically. 

The index increased by over 40% four times since FY 1991, and fell by over 40% three times since that year, says a research note by Kotak institutional securities. “The index becomes highly sensitive to the accounting practices of these entities,” said Mr Anant, suggesting that the accounting process was driving the volatility. 

In July, the growth in capital goods was driven primarily by a jump in the category of cables and wires, which reported a 517% year on year growth and trebled on a month-on-month basis. This category has a weight of 0.244% in a total of 9.257% for all capital capital goods in the IIP index and could alone have added one percentage point to the IIP growth.However, Krishnamurthy Vijayan, chief executive officer, IDBI mutual fund, refused to read too much into the debate over actual growth numbers. “Cynicism is not warranted, these numbers are indicative of a broad trend,” he said.
source http://economictimes.indiatimes.com/news/economy/indicators/RBI-says-it-cant-figure-out-IIP-maths/articleshow/6569394.cms