business economics


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business economics

  2. 2. OBJECTIVES The objective of our study is to understand: 1. What is inflation and to analyze its origin and study its root causes? 2. What policy the RBI has adopted to raise the cash reserve ratio and repo rate to curb inflation? 3. The effects of inflation and economy as a whole and its impact on common man. 4. And make a comparative study between inflation in India and that in other countries. 5. The economic implications of the crude oil price hike and how it has increased the inflation rate, and its impact on common man.
  3. 3. Inflation is the term used to describe a rise of average prices through the economy. It means that money is losing its value. In economics, inflation usually refers to a general rise in the level of prices of goods and services over a period of time. This is also referred to as PRICE INFLATION. The term "inflation" originally referred to the debasement of the currency, and was used to describe increases in the money supply MONETORY INFLATION.
  4. 4. Inflation can also be described as a decline in the real value of money. When the general level of prices rises, each monetary unit buys fewer goods and services. Example: Suppose Price of one unit of commodity ‘X’ is Rs. 50 as on 1 Jan 2008. On 31 st Dec. 2008 its price is Rs. 70 Then we say that it is inflation as now keeping the other factors constant, the same amount of commodity ‘X’ is now purchased @ Rs 70 instead of Rs.50. The value of Rs. 50 is today equal to the value of Rs.70. hence, the purchasing power of Re has declined & at the same time the price of the commodity has increased to Rs.70 from Rs.50
  5. 5. Inflation originally referred to the debasement of the currency, where gold coins were collected by the government (e.g. the king or the ruler of the region), melted down, mixed with other metals (e.g. silver, copper or lead) and reissued at the same nominal value. By mixing gold with other metals, the government could increase the total number of coins issued using the same amount of gold, and thus gained a profit known as “ SEIGNIORAGE ”. However, this action increased the money supply, and lowered the relative value of money. As the real value of each coin had decreased, the consumer had to pay more coins in exchange for goods and services of the same value
  6. 6. (i.e. prices had increased). In the 19th century, the word inflation started to appear as a direct reference to the action of increasing the amount of currency units by the central bank. In the United States in the 19th century (when the term first began to be used frequently), inflation originally was used to refer to increases of the money supply (MONETORY INFLATION), while deflation meant decreasing it.
  7. 7. ‘ Deflation’ is when the general level of prices is falling. This is the opposite of inflation. ‘ Hyperinflation ’ is unusually rapid inflation. In extreme cases, this can lead to the breakdown of a nation's monetary system. One of the most notable examples of hyperinflation occurred in Germany in 1923, when prices rose 2,500% in one month. ‘ Stagflation ’ is the combination of high unemployment and economic stagnation with inflation. This happened in industrialized countries during the 1970s, when a bad economy was combined with OPEC raising oil prices.
  8. 8. In the long run inflation is generally believed to be a monetary phenomenon while in the short and medium term it is influenced by the relative elasticity of wages, prices and interest rates. Most reasons can be divided into two broad areas : 1) Quality theories of inflation- quality theory of inflation rests on the expectation of a seller accepting currency to be able to exchange that currency at a later time for goods that are desirable as a buyer.
  9. 9. 2) Quantity theory - quantity theory of inflation rests on the equation of the money supply, its velocity, and exchanges. KEYNESIAN VIEW KEYNESIAN economic theory proposes that money is transparent to real forces in the economy, and that visible inflation is the result of pressures in the economy expressing themselves in prices. Here, we have two theories: 1) Cost Push Inflation 2) Demand Pull Inflation
  10. 10. <ul><li>1) “Cost-push inflation” occurs when businesses respond to rising production costs, by raising prices in order to maintain their profit margins. </li></ul><ul><li>There are many reasons why costs might rise: </li></ul><ul><li>Rising imported raw materials </li></ul><ul><li>Rising labor costs </li></ul><ul><li>Higher indirect taxes imposed by the government </li></ul><ul><li>2) “ Demand Pull Inflation” : inflation caused by increases in aggregate demand due to increased private and government spending, etc. Demand inflation is constructive to a faster rate of economic growth since the excess demand and favorable market conditions will stimulate investment and expansion. </li></ul>
  11. 11. <ul><li>Various reasons for demand pull inflation are: </li></ul><ul><li>A depreciation of the exchange rate </li></ul><ul><li>A reduction in direct or indirect taxation </li></ul><ul><li>The rapid growth of the money supply </li></ul><ul><li>Rising consumer confidence and an increase in the rate of growth of house prices </li></ul><ul><li>Faster economic growth in other countries </li></ul><ul><li>MONETARIST VIEW </li></ul><ul><li>Monetarists assert that the empirical study of monetary history shows that inflation has always been a monetary phenomenon. It says that the total amount of spending in an economy is primarily determined by the total amount of money in existence. </li></ul>
  12. 12. Macroeconomic Implications of oil price hike Paper by RADHIKA PANDE Lecturer, National Law University: One of the significant developments affecting the global economy in the current scenario is the phenomenal increase in the crude oil prices. Crude oil is an import raw material for manufactured goods, thus an unprecedented increase in the price of oil is bound to threaten the economy with inflationary tendencies. It is left to the policy makers to design suitable policy prescriptions so that the oil price hike does not hamper the economic growth performance of the nation.
  13. 13. 1) To RAISE the cash reserve ratio and the repurchase rate :- The Cash Reserve Ratio (CRR) is a fixed percentage of the total deposits commercial banks have to keep with the RBI as deposits, an increase in this percentage will mean than banks have less money to lend out to consumers. The repurchase rate (repo rate) is the rate at which RBI repurchases securities from the banks, at a discounted rate. An increase in this rate once again reduces the amount of money in the economy
  14. 14. 2) Inflation is caused when demand outstrips supply and supply cannot keep pace with the rising demand . The RBI’s rate increase policy is aimed at slowing the demand growth to enable supply to keep pace. This policy will reduce inflation provided that the supply can indeed meet the demand requirements . 3) Increase in the prices of agricultural goods & food grains. 4) Increase in the price of manufactured goods like steel and cement. They have hiked repo rates by 50 bps and cash reserve ratio or CRR by 25 bps with a view to control inflation and  
  15. 15. to bring it down and the CRR hike shall come into effect from August 30. The 10-year bond yield has surged 9.51%. They have a realistic endeavor to lower inflation to 7% by March '09. 
The repo rate is at 9% for the first time since October, 2000, while CRR is at 9%for the first time since November, 1999.
  16. 16. <ul><li>INFLATION RATE was 100,000% in february 21 according to CST in Business World </li></ul><ul><li>Highest rate of inflation in the world. </li></ul><ul><li>Suffering from shortages of food ,fuel & foreign currency. </li></ul><ul><li>Single loaf of Bread now costs between Z$ 80,000-Z$110,000 </li></ul>
  17. 19. <ul><li>Crude oil price has been rising from mid 2001. </li></ul><ul><li>Prices depends upon Demand & Supply function </li></ul><ul><li>China & USA are the largest consumer of oil. </li></ul><ul><li>India imports 70% of crude requirements. </li></ul>
  18. 20. An oil price shock affects macroeconomic performance through various channels: 1) Higher oil prices trigger a transfer of income from oil-importing to exporting counties through a shift in the terms of trade 2) Second, a rise in oil prices reduces industry outputs through higher cost of production. This supply side impact exerts inflationary pressure. Inflation results in a loss of real income for consumers
  19. 21. 3) For net oil-exporting countries, a price increase directly increases real national income through higher export earnings, though part of this gain would be later offset by losses from lower demand for exports generally due to the economic recession suffered by trading partners.
  20. 22. In general, high or unpredictable inflation rates are regarded as bad for following reasons: 1) Uncertainty about future inflation may discourage investment and saving . 2) Redistribution - Inflation redistributes income from those on fixed incomes, such as pensioners, and shifts it to those who draw a variable income. 3) Implicit taxation 4) International trade
  21. 23. 5) Cost-push inflation 6) Hoarding 7) Hyperinflation 8) Shoe leather cost: High inflation increases the opportunity cost of holding cash balances and can induce people to hold a greater portion of their assets in interest paying accounts. However, since cash is still needed in order to carry out transactions this means that more &quot;trips to the bank&quot; are necessary in order to make withdrawals, proverbially wearing out the &quot;shoe leather&quot; with each trip. 9) Menu costs