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Inflation

Alok singh Ambesh kumar srivastava

Inflation exists when there is a sustained increase in the price level . Inflation measures, rise in the general price level and therefore a fall in the value of money.

Basically, refer to an increase in the supply of currency or credit relative to availability of goods and services, resulting in higher prices.

Inflation can be measured in the term of

How inflation measured
. 1-consumer

price changes for good and services purchased by urban consumers.

price index (CPI)-the CPI measures the

2-Producer price index (PPI)-The PPI measures price
change for goods at the wholesale level ,spec finished goods ,intermediate goods and crude material.

3-GDP deflator- It measures change in price for goods and
services included in GDP. It is a price index found by dividing nominal GDP by real GDP and then multiplying by 100.

Type of inflation
There are four main types of inflation with four different causes.

• 1- Demand-pull inflation- It occurs when the total demand for
goods and services in an economy exceeds the available supply, so the prices for them rise in a market economy.

• 2- Cost-push inflation- It is caused by an increase in production
costs. Costs of production rise, for one reason or another, and force up the prices of finished goods and services. When wages are increased, this causes the business owner to in turn increase the price of final goods and services which would be passed onto the consumers and the same consumers are also the employees.

Contd….
3- Pricing power inflation- It occurs whenever businesses in general decide to boost their prices to increase their profit margins. This does not occur normally in recessions but when the economy is booming and sales are strong.

• 4- Sectoral inflation- Planned inflation that is caused by a

government's monetary policy is called structural inflation. This type of inflation is not caused by the excess of demand or supply but is built into an economy due to the government’s monetary policy.

Cause of inflation:1-Demand Pull Inflation• • • • Depreciation of the exchange rate. Reduction in direct or indirect taxation. The rapid growth of the money supply. Rising consumer confidence and an increase in the rate of growth of house prices.

2- Cost Push Inflation• Rising imported raw materials costs • Rising labour costs • Higher indirect taxes imposed by the government.

Demand Pull Inflation
Demand pull inflation occurs when aggregate demand for goods exceeds aggregate supply of goods at current prices, thus leading to an increase in the price level. The factors of which bring about increase in aggregate demand for goods or rise in the general level of prices are grouped under two separate heads; 2 Factors operating on demand side v Increase in money supply v Increase in Government expenditure v Increase in private expenditure v Increase in population v Black money v Factors causing decrease in supply of goods Ø Lagging agricultural & industrial production Ø Inadequate infrastructure facilities Ø Long gestation period

Cost Push Inflation
Cost push inflation occurs when there is an increase in the cost of production of goods and is not associated with excess demand. Increase in money wage rate Profit push inflation Material push inflation Higher taxes Import prices

KINDS OF INFLATION
Inflation is of different types. It is generally classified on the following basis:3. On the Basis of Rate of Inflation vCreeping Inflation vWalking Inflation vRunning Inflation vGalloping or Hyper Inflation 4. On the Basis of Degree of Control vOpen Inflation vSuppressed Inflation

3.

Inflation on the Basis of Causes vDemand Pull Inflation vCost Push Inflation vProfit Induced Inflation vBudgetary Inflation vMonetary Inflation vMulti Casual Inflation 4. On the Basis of Employment vPartial Inflation vFull Inflation

Anticipated versus Unanticipated Inflation
Anticipated inflation is the rate of inflation which majority of the individual believes will occur. When the rate of inflation (say 6%) turns out to be same (6%) we are then in a situation of fully anticipated inflation. Unanticipated inflation is that which comes as a surprise to majority of individuals. It can be higher or lower than the rate of anticipated inflation.

Here is a chronology showing key milestones in the price of crude oil since 1970:

How oil prices rose over the years ?

1970: The official price of Saudi crude oil is fixed at 1.80 dollars per barrel 1974: Prices pass 10 dollars per barrel after the first oil shock, sparked by the October 1973 Arab-Israeli war 1979: Prices pass 20 dollars as the Islamic revolution in Iran causes a second oil shock 1980: Prices top 30 dollars for the first time and progress to 39 dollars in early 1981 at the height of the war between Iran and Iraq

Sept-Oct 1990: Prices sneak above 40 dollars per barrel amid tension over Iraq's invasion of Kuwait Aug 2005: Prices rise above 70 dollars when Hurricane Katrina hits the Gulf of Mexico, damaging major offshore oil installations Dec 28, 2007: Oil prices hit 97.79 dollars per barrel after the murder of Pakistan's opposition leader Benazir Bhutto and following a sixth successive weekly drop in US crude reserves Jan 2, 2008: Prices hit 100 dollars May 9, 2008: More problems in Nigeria increase concerns over supply, with prices breaching 126 dollars 29 July 2008 : The price of OPEC basket of thirteen crudes stood at 121.73 dollars a barrel on Tuesday, 29/7/08,

Fuel & Inflation make an explosive mix
An increase in oil prices causes an inward shift in short run aggregate supply and puts upward pressure on the price level – in other words a sharp jump in the price of crude oil causes an exogenous inflationary shock and the impact will be greatest when a country is (b) a large-scale importer of oil and (c) has many industries that use oil as an essential input in the production process. Research suggests that a $3-4 rise in oil prices can be expected to add directly about 0.1% to price inflation after about two years. This is not in itself a major contributor to higher prices. Of greater impact are the knock-on effects of increased costs through the supply-chain. The second-round effects on inflation are more complicated, as businesses pass through higher costs.

v $1 rise in oil adds a further 0.1% to inflation after two years (including the petrol effect). v A doubling in oil prices would have many other inflationary effects: Increasing the cost of heating oil and aviation fuel, plastics, chemicals, as well as raising the material costs of all firms. (which would likely be passed onto consumers). How to tackle the oil price effected inflation(cost push inflation) v Deflationary policies designed to control cost-push inflation will have the effect of reducing real national output below potential (creating a negative output gap). v Indeed if a slowdown becomes a recession, then the demand for oil will decline putting downward pressure on international oil prices.

What happens to oil in 2007
v v v Let us talk about how at that time the oil prices had played a drastic role in India's inflation:Although a double-digit inflation figure was anticipated, at 11.05% it was 250 basis points higher than expected. The fuel group in the WPI basket rose by 7.8% week-on-week. Prices of most of these products have been consistently going up. These goods are used as fuel in industries such as aviation, fertilizer, power and petrochemicals apart from making inputs like bitumen for road construction. With crude oil prices holding firm, hovering around $136 a barrel, prices of such products are expected to only go up in the coming days. The index of fuel, power, light and lubricants with a weight of 14.23% rose by 7.8% to 374.2 from 347.2 for the previous week. This increase was due to higher prices of light diesel oil (21%), LPG (20%), naphtha (17%), furnace oil (15%), aviation turbine fuel (14%), petrol (11%), high-speed diesel oil (10%) and bitumen (7%).

v v v

• Year-on-year, the index for ATF has moved from 63.9 to 86.8, naphtha from 35.8 to 58.7 and bitumen from 40.2 to 50.1. • Prices of IOC for LDO stood at Rs 32,220 per kl as on June 16, 19% higher than May 16. • Naphtha prices stood at Rs 49,920 per metric tonne as on June 16, a 12% increase over the same period previous month. • The prices of both LSHS (low sulphur heavy stock) and furnace oil climbed by 4% to Rs 30,660 per metric tonne and Rs 27,980 per kl, respectively, as on June 16. • The government announced an across-the-board 5% cut in customs duties, bringing rates on crude to zero, on petrol and diesel to 2.5% and on other products like ATF and naphtha for non-fertiliser use to 5%. • Diesel and LPG contributed to 94% of increase in inflation for the week ended June 7. • The government on June 4 had announced a hike in petrol, diesel and LPG prices by Rs 5 a litre, Rs 3 a litre and Rs 50 per cylinder, respectively.

• For the week ended June 7, petrol prices rose by 11%, LPG rates by 20% and diesel by 10%, official data showed. • Inflation was 3.1% in November 2007 when crude oil prices were $98 a barrel. • On the day the Budget was presented it was $101 a barrel. • On 31st of May it was $127 a barrel, while on June 7 it crossed $140 a barrel, • Crude oil prices increased by almost 37% • The increase in the price of crude has 100% impact on the price of aviation turbine fuel (ATF) in the country. • As the crude price in the international market shot up very sharply, the increase in the ATF price in the beginning of this month was much higher. • The prices of ATF in New Delhi went up by 18% to Rs 69,227.08 in June. It rose by 9.5% in May over April to Rs 58,387 per kl and by about 13% in April over March to Rs 53,309 per kl. Costlier ATF has also forced a number of airlines to raise air fares and layoffs.

But other factors might help to limit the inflationary impact of this exogenous shock. v Consider the impact of higher oil prices on aggregate demand. v An increase in inflation acts to reduce the growth of real incomes putting downward pressure on consumer demand (the main component of AD). v Higher inputs costs will also squeeze company profit margins which together with a slower growth of demand will lead to cutbacks in planned investment spending. That’s how on an over all I think that the economic activities automatically became so powerful to control the inflating prices.

Remedies of inflation
There are two measures which a government can take to control the inflation:2. Monetary Policy; Monetary policy is a policy that influences the economy through changes in the money supply and available credit. Monetary policy is adopted by central bank of a country. The various monetary measures which are used to control inflation are grouped under two heads (d) Quantitative controls (b) Qualitative controls 1) Open market operations 2) Variation in bank rates 3) Credit rationing 4) Varying reserve requirements 5) Varying margin requirements 6) Consumer credit regulations.

2.

Fiscal Policy

Fiscal policy is the deliberate change in either government spending or taxes to stimulate or slow down the economy. It is the budgetary policy of the government relating to taxes public expenditure, public borrowing and deficit financing. Fiscal policy is based upon demand management i.e, raising or lowering the level of aggregate demand by controlling various expenditures, government expenditure, consumption expenditure and investment expenditure. The main fiscal measures are: v Changes in taxation v Changes in Govt. Expenditure v Public borrowing v Balanced budget Changes v Control of deficit financing 3. Others Measures: v Price support programme. v Provision subsidies. v Arrangements of easy availability of goods on hire purchase to stimulate demand. v Imposing direct control on prices of essential items. v Rationing of essential consumer goods in case of acute emergency holding of Friday and Sunday markets.

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