INFLATION-PATTERN OVER1991-2011REASONS AND IMPACT (INDIA)
The term “inflation” is from theLatin term inflare, meaning to“blow up or inflate,” and it was firstused in a monetary sense todescribe “an increase in theamount of money”.In1838 the concept of inflationwas first used.
Definition Inflation can be defined as the rise in overall price level in the economy, i.e. rise in prices of all the goods and services. When prices rise,it erodes the purchasing power of money. Inflation is a situation in which there is a persistent and appreciable increase in general level of prices.
Inflation is the gravest economic concern which has gripped India into its jagged tentacles. India has been plagued by the disease of inflation since the 1950s but it has started showing its prominently harmful symptoms and ill effects since 1991, post liberalization. Kick started by the fiscal crisis of 1991, marked by deficits in government finances and devaluation of the rupee, a whopping inflation of 13.66 per cent took its toll on the Indian economy.
Measuring A chief measure of price inflation is the inflation rate. It is measured by:1.Change in price index a)Consumer Price Index(CPI) b) Wholesale Price Index (WPI)2. Gross National Product Deflator (GNP Deflator).
Change in price index Rate of change in inflation can be measured through change in price index where,P0 is current average price level P-1 is the price level a year ago
Consumer Price Index(CPI) A consumer price index measures changes in the price level of consumer goods and services purchased by households. A CPI can be used to index (i.e., adjust for the effect of inflation) the real value of wages, salaries, pensions, for regulating prices and for deflating monetary magnitudes to show changes in real values.
Wholesale Price Index(WPI) The Wholesale Price Index or WPI is the price of a representative basket of wholesale goods. The Indian WPI figure is released every 10 days and influences stock and fixed price markets. The Wholesale Price Index focuses on the price of goods traded between corporations, rather than goods bought by consumers, which is measured by the Consumer Price Index. The purpose of the WPI is to monitor price movements that reflect supply and demand in industry, manufacturing and construction. In India WPI is the indicator for inflation rate.
GNP DEFLTOR GNP deflator is not obtained directly like CPI and WPI. It is measured as follows: where, nominal GNP= GNP at current prices Real GNP= GNP at constant prices
There are different types inflation which are explained below: Creeping Inflation: This is also known as mild inflation or moderate inflation. This type of inflation occurs when the price level persistently rises over a period of time at a mild rate. Galloping Inflation: If mild inflation is not checked and if it is uncontrollable, it may assume the character of galloping inflation. Inflation in the double or triple digit .Indian economy has witnessed a galloping inflation .It causes economic distortion and disturbances.
Hyperinflation: It is a stage of very high rate of inflation. While economies seem to survive under galloping inflation, a third and deadly strain takes hold when the cancer of hyperinflation strikes. Nothing good can be said about a market economy in which prices are rising . Stagflation: It is an economic situation in which inflation and economic stagnation or recession occur simultaneously and remain unchecked for a period of time. Stagflation was witnessed by developed countries in 1970s, when world oil prices rose dramatically. Deflation: Deflation is the reverse of inflation. It refers to a sustained decline in the price level of goods and services. It occurs when the annual inflation rate falls below zero percent (a negative inflation rate), resulting in an increase in the real value of money.
The rate at which the prices of everything go up is called the "rate ofinflation". For example, if the price of something is Rs.100 this yearand next year the price becomes approximately Rs.104 then the rateof inflation is 4%. If the price of something is Rs.80 then after a yearwith a rate of inflation of 4% the price go up to (80 x 1.04) = 83.2.So, when you make an investment, make sure that your rate of returnon the investment is higher than the rate of inflation in your country.In our county India, for the year 2005-2006 the rate of inflation was4%.
REASONS OF INFLATION IN1990S The 1990s is widely described in general as a price stability era all over the globe, barring some external factors like bouts of: Increase in international oil price and Natural disasters like drought or flood showed an ebbing trend.
Continued… The main problem of inflation came to head in August 1990. When Iraq invaded Kuwait the prices of oil doubled in international market. Trade deficit (import exceeding exports) in 1991 rose to 15600 cores therefore, India borrowed funds from International Monetary Fund(IMF).
REASONS FOR INFALTION INEARLY 20TH CENTURY The first half of Indias fiscal 2002-03 (beginning April 1, 2002) witnessed uptrend in inflation largely due to: Increase in oil prices twice during the period. Adverse impact of drought on Agricultural products leading to increase in prices – particularly of: Oilseeds and Edible oils.
At the end of the fiscal 2002-03 inflation was up 3.3 percentage points. In the light of overall variation in wholesale price inflation, the inflation in fiscal 2002-03 was dominated by non-food items unlike preceding years, as per a RBI report Defence expenditures (official) skyrocketed, also four times, from Rs 16,347 cores to Rs 65,000 cores in the budget of 2002/03.
Food Inflation Food inflation can be defined as a consistent rise in the price level of all agricultural food items. This rise in price level is neither seasonal nor sudden, it keeps on increasing over a period of time. This is one of the biggest problem faced by the economy. Prices of close substitutes for rice are rising sharply as well: wheat, maize, and soybeans are all at record highs
The nature of Indias current bout of inflation is also a pointer to the fact that it is not a product of growth. It is largely driven by a rise in prices of food items. Wholesale prices of all commodities have risen by about 38% between 2005 and 2010, but prices of food items have jumped by over 77%. Some food items have seen even bigger hikes like vegetables (101%), milk, eggs, meat and fish (80%). In 2009-2010 the country faced worst situation in food inflation which was the major cause of overall inflation.
UPDATE ON FOOD INFLATION Indias food inflation plunged sharply to 4.3 per cent for the week ended December 15 as compared to 8 per cent in the previous month as onions, potatoes and wheat became cheaper and the rise in the prices of other items moderated on the back of a good monsoon. Food inflation has dropped sharply in the last four weeks. It had come down in single digit for the week ended November 12 from 12.21 percent. The headline inflation based on the wholesale price index was recorded at 9.73 per cent. The Reserve Bank of India (RBI) has hiked key policy rates 13 times since the beginning of 2010 to control the price rise.
Causes of inflation1-Cost push inflation.2-Rising imported raw materials costs.3-Rising labor costs.4-Higher indirect taxes imposed by the government.5-Demand pull inflation.
Effects of inflation on prices1. Over-expansion of money supply i.e. excess liquidity in theeconomy leads to inflation .-- Expansion of Bank Credit .-- Deficit Financing: The high doses of deficit financing whichmay cause reckless spending.-- A high population growth leads to increase in demand andmoney income and cause a high price rise.-- Excessive increase in the price of fuel or food products due topolitical, economic or natural reasons
2. Western economies like us are consuming on a massive scale leading to huge trade imbalance.3. As government has reduced protection and subsidies on agriculture that results into high cost of energy which directly translates into high cost of cultivation and therefore high prices of output..4. The problem of inflation is directly linked to the price of crude oil imported by our country. India’s 70% oil needs are fulfilled through imports.
Effect of inflation on different industriesEffect on bank1-The RBI may go for further monetary tightening in the light of risinginflation .2-Yields are rising, compelling the banks to raise interest rates, which willhamper their business growth .3-Inflation concerns remain high with finance ministry officials indicatingthe rate could go up to 13 per cent in the near term.Effect on airline industry1-One major issue is cost of Aviation Turbine Fuel2-Job cuts in airline industries on a rise
Effect on automobile industries in india1-The automobile sector is also suffering because of soaring raw material price.2-The two-wheeler sector is especially suffering, as banks are not willing to lend fearing delinquency.Effect on IT companies1-Patni computers has handed the pink slip to over 400 employees for non performance.2-TCS other companies warns its employees that non performance wont be tolerated.3-Companies like wipro and sutherland may cut down on incentives and other perks
EFFECTS ON STOCK MARKET 1-A huge 6.5 % fall in Reliance Industries & 4.5 % fall in Bharti Airtel was responsible for the benchmark Sensex to close at 14590.16 points, down 498 points. 2-For the first time in 2008, the Sensex dipped from the psychological level of 15,000 point. 3-Investors confidence is dented by the rising inflation.
Inflation widening gap between rich andpoor Inflation in country creates a breeding ground for social upheavals .Inflation redistributes income and wealth in favor of rich and black marketers . The rich and business class get ample chances of making profit while poor indirectly suffer the social sins done by rich.
Here are broadly two ways of controlling inflation in an economy – Monetary measures and fiscal measures. 1). Monetary measures 2). Fiscal measures I).Monetary Measures The most important and commonly used method to control inflation is monetary policy of the Central Bank. Most central banks use high interest rates as the traditional way to fight or prevent inflation.
Monetary measures used to control inflation include: (i) bank rate policy (ii) cash reserve ratio and (iii) open market operations.(i) Bank rate policy is used as the main instrument of monetary control during the period of inflation. The central bank raises the bank rate. The increase in bank rate increases the cost of borrowing which reduces commercial banks borrowing from the central bank. Consequently, the flow of money from the commercial banks to the public gets reduced. Therefore, inflation is controlled to the extent it is caused by the bank credit.
(ii) Cash Reserve Ratio (CRR) : To control inflation, the central bank raises the CRR which reduces the lending capacity of the commercial banks. Consequently, flow of money from commercial banks to public decreases. In the process, it halts the rise in prices.(iii) Open Market Operations: Open market operations refer to sale and purchase of government securities and bonds by the central bank. To control inflation, central bank sells the government securities to the public through the banks.
2) Fiscal Measures Fiscalmeasures to control inflation include decrease in government expenditure and delay in payment of old debts and taxation. The government can also take some protectionist measures (such as banning the export of essential items such as pulses, cereals and oils to support the domestic consumption, encourage imports by lowering duties on import items etc.)
Others Measures: (a)Increase in production (b) Provision of subsidies (c) Proper commercial polices (d) Imposing direct control on prices of essential items. (e) Encouragement to savings
MEASURES TAKEN BY GOVERNMENT Government has reduced import duty on skimmed milk powder, petrol and diesel and customs duty on crude oil. “As part of the monetary policy review stance, the RBI has taken suitable steps to maintain its growth without provoking price rise. Headline inflation, as measured by Wholesale Price Index (WPI), has been above the 9 per cent mark since December, 2010, and stood at 9.22 per cent in July . Food inflation stood at 9.80 per cent in mid-Year. The government has been under attack from various quarters over sustained inflationary pressure. In its Annual Report the RBI said inflation is likely to stay elevated at least till the third quarter of the current fiscal, before falling to 7 per cent by March, 2012.
Future predictions`Reserve Bank of India (RBI) Governor D Subbarao hassaid that inflation will come down by March on the back ofstrengthening agro-based economy in the country."Inflation will come down because the production andagriculture sectors will boost up the rural agro-basedeconomy of the country," Subbarao said at a RBI FinancialOutreach Programme in Dungabori in central AssamsMorigaon district.According to the RBI Governor, the Indian economy isstable and will grow despite the global economic slowdown.
RBIs Role: The Reserve Bank of India has tightened liquidity by raising the interest rate. It currently stands at 8.5 per cent. In India RBI uses repo technique for increasing or decreasing liquidity in market. The RBI takes into account the important concern of balancing the targets of controlling inflation and keeping up growth and employment generation. The fiscal deficit as a percentage of GDP was 6.4 per cent in 2009-10. In 2010-11 this was brought down to 4.7 per cent. This year a target of 4.6 per cent has been set. This is a difficult target, given the deterioration in the global economy and its impact on India over the last 3 to 4 months.
Government role: Liberalization of imports and cutting of excise and custom duties Has directed RBI to take monetary measures and to put down interest rates to control inflation State governments have taken initiative to provide lower priced ration goods for the BPL (below poverty line).
Suggestions ???On alternative source of fuel! In some countries biodiesel is less expensive than conventional diesel.
BIOFUELS More usage of bio fuels. Need for focus on the crops that will yield these oils. The problem of huge oil import bill and price uncertainty can be mitigated by cultivating bio fuel crops on over 60 million hectares of waste land available in the country.