INFLATIONClass — 11

SYNOPSIS

Introduction

Definition

Indicators of Inflation

Trends of Inflation

Causes of Inflation

Effects of Inflation

Government Policies to check Inflation

Introduction

Inflation is defined as a sustained increase in price level or reduced value of money.

Inflation occurs when the level of currency of a country exceeds the level of production.

Value of money depreciates with the occurrence of inflation.

How the value of money falls?Year 1 Year 2

Amount

Price

Definition

“Inflation is State in which the Value of Money is Falling and the Prices are rising.”

– C. Crowther

In Economics, inflation refers to general rise in prices measured against a standard level of

purchasing power.

Indicators of Inflation

Wholesale Price Index (WPI) represents the price of goods at a wholesale stage. I.e. goods that are sold in bulk and traded between organizations instead of consumers.

Simple calculation:

(WPI of end of year – WPI of beginning of year) / WPI of beginning of year x 100

Consumer Price Index Consumer Price Index

A comprehensive measure used for estimation of price changes in a basket of goods and services representative of consumption expenditure in an economy

Consumer Price Index = [Current Period Price of the Basket / Base Period Price of the Basket] *100

GDP Deflator

The GDP Deflator is a price index that measures inflation or deflation in an economy by calculating a ratio of nominal GDP to real GDP

GDP = [Nominal GDP/Real GDP] *100

Trends of InflationAverage Inflation Inflation Average Inflation Inflation

CPI India 2017 1.86 % CPI India 2007 6.39 %

CPI India 2016 4.97 % CPI India 2006 5.79 %

CPI India 2015 5.88 % CPI India 2005 4.25 %

CPI India 2014 6.37 % CPI India 2004 3.77 %

CPI India 2013 10.92 % CPI India 2003 3.81 %

CPI India 2012 9.30 % CPI India 2002 4.31 %

CPI India 2011 8.87 % CPI India 2001 3.77 %

CPI India 2010 12.11 % CPI India 2000 4.02 %

CPI India 2009 10.83 % CPI India 1999 4.84 %

CPI India 2008 8.32 % CPI India 1998 13.17 %

Causes of Inflation

Inflation is a result of a mismatch between demand and supply in the economy.

Main causes are:1.Demand Pull Inflation2.Cost Push Inflation

Other Causes of Inflation Increase in Money Supply Deficit Financing Rise in Population Fall in Production Increase in Indirect Taxes (sales tax, excise

duty, custom duty) Credit Expansion Black Money And so on…

Problems Caused by Inflation

Process of growth slows down Adverse effect on the people with fixed

income Increase in the cost of project Adverse impact on balance of payments Economic stagnation Wage price spiral and so on

Government Policies to Check Inflation1. Price Policy

2. Monetary Policy

3. Fiscal Policy

1. Price PolicyIt is the policy of directing, regulating and controlling the prices of goods and services in the economy.

It includes following instruments:

1.Price control of essential goods:Ceiling price/ maximum price that producer can charge

2.Procurement price and support price:Price fixed by the Govt. to procure farmer produce for PDS. Price offered by government to purchase surplus output.

2. Monetary PolicyIn this, the government controls the supply of money and the rate of interest in the economy.

It includes following instruments:

1.Supply of Money: Controlling money supply to lower purchasing power of people and lowering demand leading to lesser inflation

2.Rate of Interest: High bank rate > high market rate of interest > lower demand for loans > lesser expenditure > reduces inflation

3.Supply of credit: Includes - increasing CRR, selling government security, increase in the margin of loan and credit rationing

3. Fiscal PolicyIt is the revenue and expenditure policy of the government.

It includes following instruments:

1.Public expenditure: keeping an eye on government expenditure.

2.Public debt: increases through public borrowing causing less purchasing power.

3.Taxes: increased in order to lower disposable income, lower purchasing power.

4.Budget policy: Surplus budget policy adopted, where expenditure is reduced while revenue is increased. This causes reduction in the demand.

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