INFLATION

Types, Causes Effects,

CPI
What Is Inflation?

• Inflation is a rise in prices, which can be translated as the

decline of purchasing power over time.

• The rate at which purchasing power drops can be reflected in the

average price increase of a basket of selected goods and services
over some period of time.

• In economics, inflation is a general increase of the prices of

goods and services in an economy.
• Although as consumers we may hate rising prices, many economists believe a
moderate degree of inflation is healthy for a nation’s economy. Typically, central
banks aim to maintain inflation around 2% to 3%.

• International Monetary Fund. "Inflation Targeting: Holding the Line."

• Increases in inflation significantly beyond this range can lead to fears of possible
hyperinflation, a upsetting scenario in which inflation rises rapidly out of control.
Types of Inflation
• From the quantitative point of view
1. Creeping inflation or Moderate Inflation

• The moderate inflation, also called as Creeping Inflation refers to a single

digit annual increase in the general price level.
• During the moderate period, the price increases persistently, but at a mild or
moderate rate, i.e. less than 10% or a single digit inflation rate.
• A moderate rate may vary from country to country, but however an
important quality of this inflation rate is, it is predictable.
2. Galloping inflation

• The galloping inflation refers to the exceptionally high inflation rate that leads to an
increase in the general price level. Generally, the inflation is in double or triple digit and
is reflected in the high price of goods and services, i.e. prices increase manifold.
3. Hyper Inflation
• As the name suggests, the hyper inflation is the situation when the prices rise at an
alarmingly high rate, i.e. more than a three-digit per annum.
• During this period, the paper currency becomes worthless, and people start trading in
kind, such as gold and silver and often resort to the old barter system of commerce.
4. Stagflation

• "Stagflation is a rare combination of high inflation and high unemployment.“

•Stagflation is an economic cycle characterized by slow growth and a high

unemployment rate accompanied by inflation.
•Causes: Supply-side shocks, economic imbalances
• Causes of Inflation
1. Demand-pull inflation
Arises when aggregate demand in an economy greater then
aggregate supply
• It involves inflation rising as real gross domestic product rises
and unemployment falls. This is commonly described as "too
much money chasing too few goods".
 Possible causes of demand-pull inflation:
 Excessive investment expenditures
 Excessive growth of consumption expenditures
 Low-cost loans
 Tax cutting
 Augmentation of government expenditures
Causes of Inflation
Cost-push inflation (or supply-shock inflation)
• is a type of inflation caused by large increases in the cost of important goods or
services where no suitable alternative is available.
Possible causes of cost-push inflation:
 Imperfect competition

 Increased taxes

 Rising wages

 Political incidents (like oil crises)

Causes of Inflation
Built-in inflation (or Anticipated inflation)

• Higher Wage :

Workers demand higher wages due to various factors such as increased cost of living,
inflation expectations, or collective bargaining.
• Labor unions often play a significant role in negotiating for higher wages.
• To maintain profit margins and cover increased labor costs, businesses may raise
prices for their products or services.
 workers trying to keep their wages up with prices and
then employers passing higher costs on to consumers as higher
prices as part of a "vicious circle.“
Stopping the inflation
There are a number of methods which have been suggested to stop
inflation.
 Managing the wages and prices – determined by state income
 policy (authority can set wages ceiling)

 Stimulating market competition – e.g. antimonopoly regulations

 Fiscal and monetary policy – e.g. central banks can affect

 inflation to a significant extent through setting interest rates
Consumer Price Index (CPI):Measurement of Inflation

Definition: CPI measures the average change over time in the prices paid by urban consumers for a market basket of
consumer goods and services.
Example Calculation:
•In 2020, the cost of the basket is $100.
•In 2021, due to price changes, the cost of the same basket is
$105.

CPI=(105/100)×100= 105
105-100= 5%

This means that prices have increased by 5% from the base year to
the current year.
Base Year (Year 1) Basket Cost: $120
Current Year (Year 2) Basket Cost: $135

How much increase in inflation or what is CPI?