Inflation in India

When everything gets more valuable “Except

Money”
Definition
 Encyclopedia: “Inflation In economics, is continual upward movement
of prices.”

 Oxford Dictionary: “ A general rise in the prices of services and

goods in a particular country , resulting in a fall in the value of money.”

 Too much money chasing few goods: The Major reason for Inflation
in India is increasing Demand of goods and Services with limited
supply. This is because Indian economy has to support a huge
population with limited resources.
Types of inflation
 Creeping inflation : Price rise 2%-4%
 Trotting inflation : Price rise 5%-9% …An Alarming
situation for the government .
 Galloping inflation : Price Rise 10%-20%...Inflation
increases at a remarkable rate
 Hyper inflation : Price rise beyond 20%....Inflation
increases so rapidly in a very less time frame.
Positives of Inflation…
 Deflation is very harmful: As economy will suffer
lower growth because of deflation. When prices are
falling people are reluctant to spend money because
they are concerned that prices will be cheaper in the
future, therefore, they keep delaying purchases.
Negatives of Inflation…
 Inflation creates uncertainty and confusion. :-When inflation is high it tends to be more volatile
and It becomes more difficult for firms to predict future prices and costs, therefore they tend to reduce or
delay investment decisions. Therefore this tends to adversely effect economic growth in the long term.

 Lower Global Competitiveness of the Country

 Inflation reduces the value of savings:- This is because inflation erodes the value of money
However this is only a problem if inflation is higher than the rate of interest. If interest rates are above the
value of inflation then savers can still maintain the value of their savings. (so long as they don’t keep it in
cash under their bed)
 Factors Contributing to Inflation
 Over expansion of money supply
 Expansion of Bank Credit
 Deficit Financing
 Monetary Factors:
1) High Non Developmental Expenditure
2) High Plan Investment
3) Black Money
4) High Indirect Taxes

 Non Monetary Factors:

1) High Population Growth
2) Natural Calamities
3) Speculations and Hoardings
4) High Prices of Imports
5) Monopolies
6) Underutilization of resources
 Calculation of Inflation Rate- India
Inclusion Different weights

 435 Commodities.  Primary articles – 22.02%.

 Primary articles.  Fuel power light and lubricants - 14.2%.
 Fuel, power, light and lubricant.  Manufactured products – 63.75%.
 Manufactured products.

Exclusion Two major tools….

 Services.  W.P.I Wholesale Price Index

 Real Estate  C.P.I Consumer Price Index
Measurement of Inflation - WPI
 India uses the Wholesale Price Index (WPI) to calculate and then decide the inflation rate
in the economy.

 WPI is the index that is used to measure the change in the average price level of goods
traded in wholesale market. In India, a total of 435 commodities data on price level is
tracked through WPI which is an indicator of movement in prices of commodities in all
trade and transactions.

 WPI Basket can be divided into three groups having different weights: Manufactured
goods (63.75%), Primary produces (22%) and energy (14.25%)

 It is also the price index which is available on a weekly basis with the shortest possible
time lag only two weeks.

 Does not include services and non-tradable commodities.

Consumer Price Index (CPI)
 CPI is a statistical time-series measure of a weighted average of prices of a specified
set of goods and services purchased by consumers.

 It is a price index that tracks the prices of a specified basket of consumer goods and
services, providing a measure of inflation.

 India is the only major country that uses a wholesale index to measure inflation. Most
countries use the CPI as a measure of inflation, as this actually measures the
increase in price that a consumer will ultimately have to pay for.

 In India, we have four CPI indices for four different groups: CPI for agricultural
labourers, rural labourers, industrial workers, and urban non-manual employees.

 Are available on a monthly basis, after a much longer time lag compared to WPI.

 The US relies on the CPI to measure inflation.

 Why is India not switching to CPI?
 Finance ministry officials point out that there are many intricate problems from shifting from WPI
to CPI model.

 First of all, they say, in India, there are four different types of CPI indices, and that makes
switching over to the Index from WPI fairly 'risky and unwieldy.

 Different indices may show different patterns of increase in prices.

 The four CPI series are: CPI Industrial Workers; CPI Urban Non-Manual Employees; CPI
Agricultural labourers; CPI Rural labour

 Secondly, officials say the CPI cannot be used in India because there is too much of a lag in
reporting CPI numbers. In fact, as of May 21, the latest CPI number reported is for March 2006.

 The WPI is published on a weekly basis and the CPI, on a monthly basis.
And in India, inflation is calculated on a weekly basis.
Causes for Inflation
Inflation is caused due to several economic factors:

 When the government of a country print money in excess, prices increase

to keep up with the increase in currency, leading to inflation.
 Increase in production and labor costs, have a direct impact on the price of
the final product, resulting in inflation.
 When countries borrow money, they have to cope with the interest burden.
This interest burden results in inflation.
 High taxes on consumer products, can also lead to inflation.
 Demands pull inflation, wherein the economy demands more goods and
services than what is produced.
 Cost push inflation or supply shock inflation, wherein non availability of a
commodity would lead to increase in prices
Numbers Speak.…
Year Inflation % Change
1990 8.971 45.66%
1991 13.87 54.61%
1992 11.788 -15.01%
1993 6.362 -46.03%
1994 10.212 60.52%
1995 10.225 0.13%
1996 8.977 -12.21%
1997 7.164 -20.20%
1998 13.231 84.69%
1999 4.67 -64.70%
2000 4.009 -14.15%
2001 3.779 -5.74%
2002 4.297 13.71%
2003 3.806 -11.43%
2004 3.767 -1.02%
2005 4.246 12.72%
2006 6.177 45.48%
2007 6.372 3.16%
2008 8.349 31.03%
2009 8.664 3.77%
 Types of Inflation
 Demand Pull Inflation
 Cost Push Inflation
 Imported Inflation
Demand-Pull Inflation
Occurs when the consumers, businesses or the governments’ demand for goods and services,
exceed the supply; therefore the cost of the item rises, unless supply is perfectly elastic. Because we
do not live in a perfect market, supply is somewhat inelastic and the supply of goods and services can
only be increased if the factors of production are increased. Reasons are:-

(1) Mounting Govt. Expenditure:

The annual average rate of investment by the government under ‘five year plans’ has risen from Es. 1,000
crores in the 1950’s to Rs. 30, 000 crores in the 1980’s and to over Rs. 80, 000 crores during the 1990’s and Rs.
3,08,550 during the 10th five year plan (2002-07)

(2) Role of Black Money:

It is well known that there is huge accumulation of unaccounted money in the hands of tax evaders, smugglers,
builders and corrupt politicians and government servants. The black-money was estimated to be Rs. 6,00,000
crores in 1997-98 and nearly 25,00,000 crores in 2006-07

(3) Growth of Population:

“Increase in population by 18-19 million every year – It used to be 14-15 million two decades ago”.
Cost-Push Inflation
Cost-push inflation is caused by an increase in production costs. It is generally caused by
an increase in wages or an increase in the profit margins of the entrepreneurs.

(1) Fluctuations in Out-put and Supply

Ex: Food Grains Production (in tonnes)

Year Production
1964-65 89 million
1965-66 72 million (fall 17 million)
2001-02 212 million (peak)
2002-03 174 million (decline of 38 million)
2006-07 216 million
2008-09 233 million
Cost-Push Inflation
(2) Hike in oil Prices and Global inflation:

 Serious inflationary pressures were also created because of the sharp hike in the
prices of crude oil since September 1973 and the consequent upward revision of the
prices of oil and oil-based products.

 In 1980 alone there was 130 per cent increase in fuel prices. It reached $148 during
2007-08.
Imported Inflation
Imported inflation occurs when the inflation of goods and services from foreign countries
that are experiencing inflation are imported and the increase in prices for that imported
good or service will directly affect the cost of living. Another way imported inflation can
add to our inflation rate is when overseas firms increase their prices and we pay more
for our goods increasing our own inflation.
An Example -Food and Fuel Price Hike

Fuel Hike has taken its toll on the common man. Inflation has forced the government to
hike the fuel prices by approximately Rs 6/Ltr and LPG gas by Rs 50/Cyldr.

Intimes of rising inflation, this means that increased cost of living for the population.
Commodity prices, for example, have increased by around 20%.

With most of India’s vast population living close to – or below – the poverty line, inflation
acts as a ‘Poor Man’s Tax’. This effect is amplified when food prices rise, since food
represents more than half of the expenditure of this group.

LPG which is the essential necessity of every house is on a low supply and not meeting
its demands even after the hike . A Common man just cannot survive with so many odds
going against him.
Myths About Inflation
 It's all about food prices:

Inflation stripped of food and energy, or other volatile components, is still rising. For
example, between March 2006 and March 2007, year-on-year wholesale price index
inflation excluding food and energy rose from 2 per cent to 7.9 per cent.

 A stronger rupee does nothing to control inflation

Rupee helps reduce inflation because it lowers the import prices of oil, other raw materials and
capital goods and this, in turn, lowers the cost of production. It also reduces the prices of import-
competing goods, like steel.

A related myth is that a strong rupee will kill the economy by hurting exporters. A stronger rupee
does reduce the rupee value of export earnings - but it also reduces the cost of imported inputs,
and to the extent that it dampens inflation, it limits the need for interest-rate hikes.
Myths About Inflation
 Monetary tightening will kill the expansion

Keeping inflation under control, in fact, is key to sustaining the expansion. Waiting until
inflation rises to higher levels will only make the job of stabilizing prices harder. The
international experience on this score is clear: When inflation expectations get
entrenched at high levels, central banks have to tighten even more sharply to get
inflation down.

 Policy tightening will deny credit to small businesses and the common
man, as well as hurt the poor.

It is true that small businesses and the common man have only limited access to credit.
This is a serious problem, but not one that can be solved through easy monetary
policy.
Methods to Contain inflation
A very high inflation rate is undesirable because it has
negative consequences. However, the remedy for such
inflation depends on the cause. Therefore, government must
diagnose its causes before implementing policies.
 Monetary Measures

1)Raising bank rates

2) Open market operations

3) Variable reserve ratio

 Fiscal Measures
 Supply Management
 Steps to contain inflation:
 The Government has directed the Reserve Bank of India (RBI) to take monetary
measures and to put down interest rates to control Inflation.

 Central Bank hiked the Cash Reserve Ratio by 75 basis points

 The Central Government of India has directed the Chief Ministers of all the states in India
to take preventive measures to control Inflation like cutting down of sales tax , custom
and excise duties .

 Some of the state Governments have taken up the initiative to provide lower priced ration
goods for the Below Poverty Line (BPL) Masses because they are the ones who are the
mostly effected .
Steps to Contain inflation:
 Duties on crude and refined palmolein have been brought down from 45% to 20%
and 52.5% to 27.5%
 Allowed import of rice at zero duty
 Duties on crude and refined sunflower have been reduced from 40% to 20% and
50% to 27.5%
 Scrapping of import duties on crude edible oils to nil and refined edible oils to 7.5%
 Duties on crude and refined mustard, rape seed have been brought down from 75%
to 20% and 75% to 27.5%
 Banned exports of wheat, maize, edible oil, cement and pulses to boost supply
 Banned export of non-basmati rice and increased the minimum export price for
basmati to $1200 tonne
 Decided to import 1.5 million tonnes of pulses in 2008-09 fiscal through public sector
trading agencies
 Withdrew incentives for steel exporters

23
THANK YOU
Amit Goyal
Ankur Sachdev
Ashish Ahuja
Elizabeth Joseph
Kanika Gupta
Rohit Raman