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Learning Outcomes
•Concept of Inflation
•Concepts Related to Inflation
•Types Of Inflation
•Inflationary Gap
•Wage Price Spiral
•Causes of Inflation
•Measurement of Inflation
•Wholesale Price Index
•Controlling Inflation (Monetary Policy / Fiscal Policy)
Inflation
• Coulborn: it is a state of “too much money chasing too few goods”.
• Two broad categories:
–price inflation
–money inflation.
Both have cause and effect relationship, i.e. money inflation leads to
price inflation.
• Hyperinflation:
– prices increase at such a speed that the value of money
erodes drastically and the economy is trapped between
rising prices and wages.
– This is also known as galloping inflation or runaway
inflation.
Concepts of Inflation
• Stagflation:
– a typical situation when stagnation and inflation coexist.
– India faced stagflation in the decade of 1970s, when
industrial production was at its lowest, accompanied by
mounting prices.
– Current situation if not controlled may result in stagflation.
• Suppressed Inflation:
– when inflationary conditions exist, but the government
makes such policies which temporarily keep prices under
check
– as soon as these checks are removed, inflation bursts out.
Concepts of Inflation
• Disinflation:
– a process of keeping a check on price rise by
deliberate attempts.
– It is a well planned process to bring down
prices moderately from a very high level.
• Deflation:
– just opposite to inflation;
– a state when prices fall persistently.
Inflationary Gap
• Inflationary Gap represents rise in price due to
a gap between effective demand and supply.
• The term was coined by Keynes to describe a
situation when there is an ‘excess of anticipated
expenditure over available output at base
prices’.
• When money income in the hands of people
exceeds the supply of goods and services, a gap
is created between demand and supply resulting
in inflation.
Wage Price Spiral
Prices Rise
Cost of
production rises
Cost of living rises
Wages rise
Another kind of Inflationary Spiral
• Cost of higher education is soaring every year and the phenomenon
is global.
– In USA the overall inflation rate since 1986 increased 92.32% in 2007,
whereas, tuition increased a whopping 343.81%.
– per an estimate the cost of attending state colleges will soar to
As
$120,000 by 2015.
–
A direct link can be found between tuition hikes and government-backed
student loans without parent income restrictions started in 1992.
–
Today the average undergraduate student loan debt is nearing
$20,000.
• Those who go on to graduate school often end up with an additional
$30,000.
• Law and medical students report an average accumulated debt from all
years (undergraduate and graduate study) of $91,700.
• This combination of high tuition and education loan created a tuition
loan spiral.
Causes of Inflation
• Excess Money Supply:. Money supply is the most
important cause of price rise, it can be directly linked with
increase in aggregate demand.
• Demand Pull Inflation: when aggregate demand level
increases due to any reason, and supply of output is
unable to match this increased demand, i.e demand pulls
prices up.
– Increase in money supply Increase in disposable income Increase in
– aggregate spending
– Increase in population of the country
– Cost Push Inflation: An increase in price of any of the
• inputs, will increase in the cost of production, i.e. cost
pushes prices up.
Causes of Inflation
• Low Increase in Supply: if supply falls short of demand,
prices will increase.
–Obsolete (outdated) technology
–Deficient machinery
–Scarcity of resources
–Natural calamities
–Industrial disputes and external aggressions
• Built in Inflation: Built in inflation is a type of inflation
that has resulted from past events and persists in the
present.
–It is also known as hangover inflation.
Causes of Inflation in India
• In the medium to long-term, the movement and outcome of
monetary aggregates such as the money supply and
reference interest rates of the financial systems have
influenced aggregate demand and consequently changes in
price levels in the economy.
• The influence of global commodity prices on the domestic
prices have become more important with the opening and
growing integration of the Indian economy with the rest of the
world.
• With huge surge in capital inflows, the liquidity management
with its underlying implications for inflation has been a major
challenge for the policymakers.
Measuring Inflation
• In India four types of Consumer Price Indices (CPls) are issued that
are specific to different groups of consumers
– CPI-IW for industrial workers;
– CPI-UNME for urban non manual employees;
– CPI--AL for agricultural labourers; and,
– CPI-RL for rural labourers
• CPI-IW is the most well known of these indices as it is used for
wage indexation in Government and in the organized sectors.
• Central Statistical Organization has initiated steps to compile CPI
under two broad categories
– CPI (Rural) and
– CPI (Urban).
Measuring Inflation
• Cost of Living Indices (COLI): these are used to adjust
fixed incomes and contractual incomes to maintain the real
value of such incomes. In fact wage indexation is based on
such indices.
• Service Price Index (SPI): With the growing importance of
service sector across the world, many countries have
started developing services price indices (SPI).
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Philips’ Wage Rise %
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