Inflation is an economic indicator that indicates the rate of rising prices of goods and services in the economy. Ultimately it shows the decrease in the buying power of the rupee. It is measured as a percentage.
This percentage indicates the increase or decrease from the previous period. Inflation can be a cause of concern as the value of money keeps decreasing as inflation rises.
Inflation is a quantitative economic measure of a rate of change in prices of selected goods and services over a period of time. Inflation indicates how much the average price has changed for the selected basket of goods and services. It is expressed as a percentage. Increase in inflation indicates a decrease in the purchasing price of the economy.
The three types of Inflation are Demand-Pull, Cost-Push and Built-in inflation.
Demand-pull Inflation: It occurs when the demand for goods or services is higher when compared to the production capacity. The difference between demand and supply (shortage) result in price appreciation.
Cost-push Inflation: It occurs when the cost of production increases. Increase in prices of the inputs (labour, raw materials, etc.) increases the price of the product.
Built-in Inflation: Expectation of future inflations results in Built-in Inflation. A rise in prices results in higher wages to afford the increased cost of living. Therefore, high wages result in increased cost of production, which in turn has an impact on product pricing. The circle hence continues.
Monetary Policy: It determines the supply of currency in the market. Excess supply of money leads to inflation. Hence decreasing the value of the currency.
Fiscal Policy: It monitors the borrowing and spending of the economy. Higher borrowings (debt), result in increased taxes and additional currency printing to repay the debt.
Demand-pull Inflation: Increases in prices due to the gap between the demand (higher) and supply (lower).
Cost-push Inflation: Higher prices of goods and services due to increased cost of production.
Exchange Rates: Exposure to foreign markets are based on the dollar value. Fluctuations in the exchange rate have an impact on the rate of inflation.
Inflation being a cause of concern for the economy, doesn’t affect everyone in a bad way. It is a boon for a certain set of people. While consumers lose a part of their purchasing power to inflation, investors gain from it.
Investors investing in assets affected by inflation, if held on for a long time will certainly benefit from it. For example, an increase in housing prices might affect consumers. However, those who have already bought a house will benefit from capital appreciation.
To prevent inflation, the primary strategy is to change the monetary policy by adjusting the interest rates. Higher interest rates decrease the demand in the economy. This results in lower economic growth and therefore, lower inflation. Other ways to prevent inflation are:
Controlling the money supply can also help in preventing inflation.
Higher Income Tax rate can reduce the spending, and hence resulting in lesser demand and inflationary pressures.
Introducing policies to increase the efficiency and competitiveness of the economy helps in reducing the long term costs.
A rise in an inflation rate can cause more than a fall in purchase power.
Inflation rate formula is the difference between initial CPI and final CPI divided by initial CPI. The result then multiplied by 100 gives the inflation rate.
Rate of Inflation = (Initial CPI – Final CPI/ Initial CPI)*100
CPI= Consumer Price Index
Inflation is calculated using the Consumer Price Index (CPI). Inflation can be calculated for any product by following these steps.
Here we used only one product to calculate inflation. However, the Ministry of Statistics calculates inflation using a basket of selected goods and services.
India’s Inflation rate in 2020 is around 3.34%. The inflation rate of an economy is determined by the increase in the price of the product basket. The product basket consists of the services and goods on which an average consumer spends through the year. For example, rent, power, clothing, groceries, telecommunication, domestic needs (oil, gas), recreational activities, and taxes, etc. In 2019, India’s inflation was around 4.54%.
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