Inflation

D# Inflation

2020-06-09 18:57:50

Types of Inflation
- What Causes Inflation
  - Various other Causes of Inflation is
How to Measure Inflation
Impact of Inflation
Analysis of Inflation in India
Definitions

When inflation rises to very high levels it causes negative effects thus gov policies aim at growth with price stability ie moderate inflation on a long term basis

Types of Inflation

Creeping inflation upto 4%,
Trotting inflation - 4-8%,
Galloping Inflation 8-10%, [Ramesh Singh had mentioned Galloping as 10 - 200/300 % and Runaway as its type]
Runaway inflation 10-20%,
Hyperinflation - 20% per day, could go on into millions per year, result of reckless fiscal policy.
Deflation
- prolonged decline in prices spending dec as people wait for prices to fall further
- ==inflation rate falls below 0% ie negative inflation,== increases the value of money, associated with recession
- self reinforcing so difficult to check
- to curb it tax cuts, lower repo, print more currency, capital injection, inc gov spending
Disinflation
- rate of growth of prices slows, ==opposite of reflation==
- inflation returns after deflation or recession.
- To curb it
  - Tax cuts to boost demand, inc gov spending
  - Lower interest rate to encourage lending, print more currency
Stagflation : inflation + unemployment
Open inflation : gov does not suppress inflation with subsidies and monetary policy opposite is suppressed inflation
Headline inflation : measure of total inflation, consumers face this
Core or Underlying inflation : long running trend in general price levels, fuel, food, processed food etc are also included. But in Base inflation such items that show short term fluctuation are not included

What Causes Inflation

Pre 1970s people believed there were 2 reasons for it

Demand pull inflation

caused due to more money in economy, wage inflation, growth etc
[[001 Economy and Economics#^1c427e|Real GDP]] also rises
too much money chasing too few goods

Cost Push inflation

cost of production goes up
ex high prices of goods, high interest rates, high cost of capital

Structural inflation

specific to sectors like agri, infra related inflation
persistent, could be caused from inefficient distribution, backward tech etc

Various other Causes of Inflation is

speculation in commodity exchanges
cartelisation of producers
Hoarding : causes artificial scarcity, checked by [[2.1 Govt Policies and Intervention in sectors#^eec400|Essential Commodities Act]]
imported inflation
global crude oil prices
rupee depreciation
higher MSP
not meeting fiscal deficit target

Measures to check Inflation

Demand side measures consumers are appealed to cut back consumption of items that show higher risk aka austerity this measure generally fails.
Supply side measures aimed at increasing supply of items showing inflation this is a medium to long term strategy
Cost side measures cutting taxes or cutting cost of production.

How to Measure Inflation

WPI

sale of goods to anyone other than consumer is wholesale, includes logistics, cost of credit, warehousing cost, transport cost etc
aka transaction at first point of bulk sale in domestic market
Different goods have diff weightage
it checks inflation from the perspective of the wholesale mandis.
published by Mo Commerce w/ base year as 2011-12, ==updated monthly== #PrelimsPYQ
Divided into primary articles; fuel, power; & mfd goods
Seasonality factor is considered
Uses
- timely intervention esp in essential commodities
- used by Gov, Global Domestic investors for investment decisions
Limitations
- Accuracy is unsatisfactory as Services like education, telecom, rail, road, healthcare etc is not considered
- Unorganised sector products not included
New WPI - 697 items increased quotations,
- not include indirect taxes,
- separate WPI Food Index
- now closer to Producer Price Index PPI
- item level aggregates compiled using geometric mean
- New Wholesale Food Price Index has been introduced that combines Food Articles (primary food articles) to Food Products (manufactured).
- Technical Review Committee TRC set up to review products.
Useful for industrialists

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CPI

change in retail level, can be whole or group specific like for industrial workers (IW) etc.
DA and Wage is based on this index, considers Services as well
CPI - IW, Agri Labourers, Rural Labourers RL, Urban, Rural and Combined
- CPI IW is used a [[#Cost of Living index]] for organised sector, pay revisions for workers in Industry is based on this.
- CPI Combined for inflation mgt by RBI
CPI - UNME (Urban Non Manual Employees) and is used to determine Dearness Allowance DA of employees of some foreign companies operating in India. Has been discontinued and replaced by CPI - Urban.
New CPI 2015 by CSO, MOSPI
- base year has been changed to 2012
- Pan, Tobacco and intoxicants made a different group.
- Groups inc to six, tobacco, egg made separate sub-group.
- Only transaction prices taken, electronic validation of data
- Price of PDS items under Antyodaya Anna Yojana has also been included for compilation of indices under PDS items.
Food inflation is reflected more in CPI vis WPI, RBI uses it
Vary from place to place, WPI is same throughout country
Some services like hotels, financing, trade, insurance not covered
When food and energy prices are omitted from CPI remaining basket is commonly referred to as core CPI. Including them it is called Headline CPI.
NSO, MoSPI publishes the data.

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Producer Price Index

Is a better measure of inflation in comparison to WPI and CPI.
It can be used to check if the retail prices in the future is going to increase or not.
price at which producer sells to wholesale/distributor
2 types input and output
fluctuation of prices of goods received by producer excluding tax, transport and trade margin is input
Output is avg change in price of goods and services as they leave place of production

Other Measures of Inflation

[[001 Economy and Economics#GDP deflator|GDP deflator]] : most comprehensive, measures change in prices of all goods. For all domestically produced final goods and services.

Cost of Living index : goods required to maintain standard of living is tracked to check affordability. Released by Economic Intelligence Unit.

Food Price Index : CSO releases Consumer FPIs (CFPIs), FAO FPI by UN, WPI Food index by DPIIT

NHB RESIDEX - Indias official Housing price index by NHB 50 cities and 18 states, tracks price of house. - Can be used to check if broker is quoting higher price for hosue - Banks, housing finance bodies would be able to estimate if loans applications are realistic or not.

RBI puts out House Price Index HPI - quarterly for 10 major cities

Service Price Index : There is no index to measure price changes in the service sector.

Impact of Inflation

Inflation discourages exports, low growth rate - due to low investment, savings devalue, fiscal deficit increases
Particularly hits people in low income brackets, fixed income individuals
Inflation tax - hidden tax
Small amt of inflation creates demand is good, greases the wheel
Investment in economy is boosted due to higher inflation since it suggest higher demand and also due to lower cost of loan.
In short term savings increase but in long term higher inflation depletes savings rate.
Bracket creep or inflation induces tax increases where income of individuals move to higher tax bracket but real value of money doe not inc but falls.
Inflation makes foreign goods costlier and imports too

Optimal Inflation

for consumers is negative but not good for economy
Monetary Policy Agreement b/w RBI and GOI 2015 - objective of monetary policy is to maintain price stability, growth, contain CPI within 4% (+-2%)

Analysis of Inflation in India

India faces structural inflation that arises due to shortfall in supply of goods that does not match the rising demand.
Cost Push inflation as price of goods and services has been rising due to higher import duties on raw materials.
Recourse to heavy internal borrowing and printing of fresh currency to finance fiscal deficit.

Steps taken by Gov to control inflation :

periodic reviews by Cabinet Committee on Prices CCP
Reduced import on food items, Raising imports on gold etc
Ban of export of food items, De-hoarding
Advising state to allow free movt of fruits vegetables delisting them from APMC
MPC adopted

Definitions

Inflationary Gap : Excess of total govt spending above the natonal income is known as inflationary gap -> done to inc producton level that pushes the prices up.

Thus increasing salaries of govt employees, enhancing MSP of notified agriculture commodities will lead to inc in govt expenditure it will create more demand in the economy.
Sucking out the money from economy will reduce the gap.
==It measures the difference b/w current level of real GDP and GDP that would exist if any economy was operating at full employment.== #concept
OR ==between the gross domestic product (GDP) under full employment and the actual reported GDP number==.
If real GDP is higher then the gap is termed as inflationary. Deflationary gap is shorfall in total spending over national income production is more than the demand and a slowdown occurs aka output gap.

Open Inflation : when Gov does not suppress inflation, market forces instead influence it.

Inflation tax : Inflation erodes the value of currency and those who hold currency suffer. It looks as if inflation is working as a tax aka seigniorage.

Inflation accounting : due to inflation profit of companies get overstated when a firm calculates profits adjusting the side effects of inflation.

Inflationary spiral is b/w wages and prices where wages push prices up and prices pull wages up.

Inflation permium : Inflation causes borrowers joy and lenders grief the bonus to borrowers is known as inflation premium.

Suppressed is the opposite of it done through fiscal and monetary actions it does not resolve the issue.

Inflation targeting can best be achieved when Fiscal and Monetary policies converge

Phillips curve :

inflation and rate of unemployment is inversely related or a trade off.
later it was argued that this trade of high inflation and low unemployment was only short term and inflation would rise back once unemployment reaches its natural rate.
In the long run monetary policy can influence inflation and suggested that if monetary policy tried to hold unemployment below its natural rate inflation would be rising to a higher level aka NAIRU or Non Accelerating inflation rate of unemployment or it is the lowest unemployment rate that an economy can sustain without any upward pressur on inflation rate.

Collection of Statistics Act 2008 - higher penalty for not sharing data, wilful manipulation is an offence, classify data as core statistics. #Act

Overheating of economy - demand overshoots supply, prices rise/inflation caused due to high growth rate

Base Effect refers to the impact of rise in price level if the base year prices were too low even lower inc in price would mean higher inflation rate.