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  1. 1. Inflation in indiaGhanshyam iilm gurgaon 1/24/2012 10:20 PM 1
  2. 2.  “Inflation is nothing more than a sharp upward rise in price level.” Too much money chasing, too few goods.” Inflation is a state in which the value of money is falling i.e. price are rising.” Ghanshyam iilm gurgaon 1/24/2012 10:20 PM 2
  3. 3.  On the basis of rate of inflation On the basis of degree of control On the basis of causes Others Ghanshyam iilm gurgaon 1/24/2012 10:20 PM 3
  4. 4.  Cost push inflation Demand pull inflation Ghanshyam iilm gurgaon 1/24/2012 10:20 PM 4
  5. 5.  Cost push inflation may arise because of :a) Increase in money wage ratesb) Increase in money prices of raw materials. Ghanshyam iilm gurgaon 1/24/2012 10:20 PM 5
  6. 6.  When there is a decrease in the aggregate supply of goods and services stemming from an increase in the cost of production, we have cost-push inflation. Cost-push inflation basically means that prices have been “pushed up” by increases in costs of any of the four factors of production (labor, capital, land or entrepreneurship) when companies are already running at full production capacity. With higher production costs and productivity maximized, companies cannot maintain profit margins by producing the same amounts of goods and services. As a result, the increased costs are passed on to consumers, causing a rise in the general price level (inflation). Ghanshyam iilm gurgaon 1/24/2012 10:20 PM 6
  7. 7.  To visualize how cost-push inflation works, we can use a simple price-quantity graph showing what happens to shifts in aggregate supply. The graph below shows the level of output that can be achieved at each price level. As production costs increase, aggregate supply decreases from AS1 to AS2 (given production is at full capacity), causing an increase in the price level from P1 to P2. The rationale behind this increase is that, for companies to maintain (or increase) profit margins, they will need to raise the retail price paid by consumers, thereby causing inflation Ghanshyam iilm gurgaon 1/24/2012 10:20 PM 7
  8. 8. Ghanshyam iilm gurgaon 1/24/2012 10:20 PM 8
  9. 9.  Demand pull inflation may be due to :a) Increase in money supplyb) Increase in government purchasesc) Increase in exports Ghanshyam iilm gurgaon 1/24/2012 10:20 PM 9
  10. 10.  Demand-pull inflation occurs when there is an increase in aggregate demand, categorized by the four sections of the macroeconomy: households, businesses, governments and foreign buyers. When these four sectors concurrently want to purchase more output than the economy can produce, they compete to purchase limited amounts of goods and services. Buyers in essence “bid prices up”, again, causing inflation. This excessive demand, also referred to as “too much money chasing too few goods”, usually occurs in an expanding economy. Ghanshyam iilm gurgaon 1/24/2012 10:20 PM 10
  11. 11.  As companies increase production due to increased demand, the cost to produce each additional output increases, as represented by the change from P1 to P2. The rationale behind this change is that companies would need to pay workers more money (e.g. overtime) and/or invest in additional equipment to keep up with demand, thereby increasing the cost of production. Just like cost-push inflation, demand-pull inflation can occur as companies, to maintain profit levels, pass on the higher cost of production to consumers’ prices. Ghanshyam iilm gurgaon 1/24/2012 10:20 PM 11
  12. 12. Ghanshyam iilm gurgaon 1/24/2012 10:20 PM 12
  13. 13.  Monetary Measures Fiscal Measures Other Measures Ghanshyam iilm gurgaon 1/24/2012 10:20 PM 13
  14. 14.  Credit Control Demonetization of Currency Issue of New Currency Ghanshyam iilm gurgaon 1/24/2012 10:20 PM 14
  15. 15.  Reduction in Unnecessary Expenditure Increase in Taxes Increase in Savings Surplus Budgets Public Debt Ghanshyam iilm gurgaon 1/24/2012 10:20 PM 15
  16. 16.  To Increase Production Rational Wage Policy Price Control Ghanshyam iilm gurgaon 1/24/2012 10:20 PM 16
  17. 17.  Consumer Price Index Wholesale Price Index Ghanshyam iilm gurgaon 1/24/2012 10:20 PM 17
  18. 18.  CPI is a measure estimating the average price of consumer goods and services purchased by households. CPI measures a price change for a constant market basket of goods and services from one period to the next within the same area (city, region, or nation). It is a price index determined by measuring the price of a standard group of goods meant to represent the typical market basket of a typical urban consumer. The percent change in the CPI is a measure estimating inflation. Ghanshyam iilm gurgaon 1/24/2012 10:20 PM 18
  19. 19.  WPI was published in 1902,and was one of the economic indicators available to policy makers until it was replaced by most developed countries by the CPI market. index in the 1970. WPI is the index that is used to measure the change in the average price level of goods traded in wholesale market. Some countries (like India and The Philippines) use WPI changes as a central measure of inflation. However, India and the United States now report a producer price index instead. Ghanshyam iilm gurgaon 1/24/2012 10:20 PM 19
  20. 20.  They add inefficiencies in the market, and make it difficult for companies to budget or plan long-term. Uncertainty about the future purchasing power of money discourages investment and saving. Ghanshyam iilm gurgaon 1/24/2012 10:20 PM 20
  21. 21.  There can also be negative impacts to trade from an increased instability in currency exchange prices caused by unpredictable inflation. Higher income tax rates. Inflation rate in the economy is higher than rates in other countries; this will increase imports and reduce exports, leading to a deficit in the balance of trade. Ghanshyam iilm gurgaon 1/24/2012 10:20 PM 21
  22. 22.  Increase in the price of wheat Increase in the price of world oil Increase in the price of rice Increase in the price of CNG Ghanshyam iilm gurgaon 1/24/2012 10:20 PM 22
  23. 23.  A condition of slow economic growth and relatively high unemployment accompanied by inflation. This happened to a great extent during the 1970s, when world oil prices rose dramatically, fueling sharp inflation in developed countries. Are we seeing that about to happen in early 2008? At least some central banks have expressed concern over inflation even as the global economy seems to be slowing down. Ghanshyam iilm gurgaon 1/24/2012 10:20 PM 23
  24. 24.  In 1958, a New Zealand economist , A.W.H. Phillips proposed that there was a trade-off between inflation and unemployment. The lower the unemployment rate, the higher was the rate of inflation. Governments simply had to choose the right balance between the two evils. Economies did seem to work like this in the 1950s and 1960s, but then the relationship broke down. Ghanshyam iilm gurgaon 1/24/2012 10:20 PM 24
  25. 25.  1958 – Professor A.W. Phillips Expressed a statistical relationship between the rate of growth of money wages and unemployment from 1861 – 1957 Rate of growth of money wages linked to inflationary pressure Led to a theory expressing a trade-off between inflation and unemployment
  26. 26. Wage growth %(Inflation) The Phillips Curve shows an inverse relationship between inflation and unemployment. It suggested that if governments wanted to reduce unemployment it had to accept higher inflation as a trade-off. 2.5% Money illusion – wage rates rising but individuals not factoring in inflation on real wage rates. 1.5% 4% 6% Unemployment (%) PC1
  27. 27.  Problems: 1970s – Inflation and unemployment rising at the same time – stagflation Phillips Curve redundant? Or was it moving?
  28. 28. Wage growth %(Inflation) An inward shift of the Phillips Curve would result in lower unemployment levels associated with higher inflation. 3.0% 1.5% 4% 6% PC1 Unemployment (%) PC2
  29. 29. Inflation Long Run PC To countershort term fall in unemployment but at aof There is athe economy starts with an inflation rate once Assume the rise in unemployment, government cost of higher high unemployment at 7%. – the result is again injects resources Individuals now base their 1% but very inflation. into the economy aGovernment takes measures to but higher inflation in wage negotiations unemploymentreduce short-term fall in on expectations of inflation. This higher inflationan expansionary fiscal policy firms the next period. If higher wages are granted then that unemployment by fuels further expectation of higher costs rise – they start to(seecontinues. The long run inflation and to the right shed labour and pushes AD so the process the AD/AS diagram on Phillips Curve is vertical at the to 7% rate of unemployment creeps back upnatural again. slide 15) unemployment. This is how economists have explained3.0% the movements in the Phillips Curve and it is termed the Expectations Augmented Phillips Curve.2.0%1.0% PC1 7% PC2 Unemployment PC3
  30. 30.  Where the long run Phillips Curve cuts the horizontal axis would be the rate of unemployment at which inflation was constant – the so-called Non-Accelerating Inflation Rate of Unemployment (NAIRU)
  31. 31.  To reduce unemployment to below the natural rate would necessitate: 1. Influencing expectations – persuading individuals that inflation was going to fall 2. Boosting the supply side of the economy - increase capacity (pushing the PC curve outwards)
  32. 32.  Supply side policies have been focused on: Education: › Boosting the number of those staying on at school › Boosting numbers going to university › Lifelong learning › Vocational education Welfare benefits: › The working family tax credit › Incentives to work Labour market flexibility
  33. 33.  Expectations have been centred on: › Operational independence of the Bank of England › Tight control of public sector payThe independence of the Bank of England has taken away interest rate decision making from thegovernment who may have been motivated by political ends – this has had the effect of influencingexpectations.
  34. 34. Ghanshyam iilm gurgaon 1/24/2012 10:20 PM 35