The document discusses various concepts related to inflation including: - How inflation is measured in India using the Consumer Price Index (CPI) and Wholesale Price Index (WPI). - Causes of inflation including excess money supply, rapid bank credit expansion, deficit financing, population growth, and fuel/food price increases. - Effects of inflation on the economy such as reduced consumption, higher interest rates, increased wage demands, reduced productivity. - Monetary tools used by the Reserve Bank of India (RBI) to control inflation including cash reserve ratio (CRR), statutory liquidity ratio (SLR), repo rate, reverse repo rate, and bank rate.

1. The term "inflation" originally
referred to increases in the
amount of money in
circulation. However, most
economists today use the
term "inflation" to refer to
a rise in the price level.
Inflation simply refers to "an
increase in the price you
pay for goods." In other
words, a decline in the
purchasing power of your
money".

2. How Inflation is measured in
India?
Inflation is calculated as
percentage change in
CPI in two periods.
Hence,
Inflation (%) = (CPI2-
CPI1)*100/CPI1
Where, CPI1 = CPI in the
previous period and
CPI2 = CPI in the
current period
(Consumer Price
Index)

3. How Inflation is measured
in India?
In India, inflation is calculated on a
weekly basis. India uses the
Wholesale Price Index (WPI) to
calculate and then decide the
inflation rate in the economy.
WPI is the index that is used to
measure the change in the average
price level of goods traded in
wholesale market The Indian
government has taken WPI as an
indicator of the rate of inflation in
the economy
Present Rate of Inflation in
India:9.8% as on Aug 2011

4. Causes of Inflation
1. Over-expansion of money supply i.e.
excess liquidity in the economy leads to
inflation because “too many money
would be chasing too few goods”.
2. Expansion of Bank Credit Rapid
expansion of bank credit is also
responsible for the inflationary trend in
a country.
3. Deficit Financing: The high doses of
deficit financing which may cause
reckless spending, may also contribute
to the growth of the inflationary spiral
in a country.
4. A high population growth leads to
increase in demand and money income
and cause a high price rise.
5. Excessive increase in the price of fuel
or food products due to
political, economic or natural reasons
will lead to inflation for short- as well
as long-term.

5. Effects of Inflation on
economy
Inflation is the increase in the price of general goods and service.
Thus, food, commodities and other services become expensive for consumption.
Inflation can cause both short-term and long-term damages to the economy; most
importantly it causes slow down in the economy.
1. People start consuming or buying less of these goods and services as
their income is limited..
2. Banks will increase interest rates as inflation increases otherwise real
interest rate will be negative.
3. Rising inflation can prompt trade unions to demand higher wages, to
keep up with consumer prices. Rising wages in turn can help fuel
inflation.
4. Inflation affects the productivity of companies. They add inefficiencies in
the market, and make it difficult for companies to budget or plan long-
term. Inflation can act as a drag on productivity as companies are forced
to shift resources away from products and services in order to focus on
profit and losses from currency inflation.
5. Higher interest rates leads to shutdown in the economy

6. Monetary policy of RBI to control
inflation & various monetary tools:
 CRR(Cash Reserve Ratio):
Cash reserve Ratio (CRR) is the amount of Cash(liquid cash like gold) that the
banks have to keep with RBI. This Ratio is basically to secure solvency of the
bank and to drain out the excessive money from the banks. If RBI decides to
increase the percent of this, the available amount with the banks comes down
and if RBI reduce the CRR then available amount with Banks increased and
they are able to lend more.
Present CRR is ( 6% as of Sept 2011 )
 SLR((Statutory Liquidity Ratio)
is the amount a commercial bank needs to maintain in the form of cash, or gold or
govt. approved securities (Bonds) before providing credit to its customers.
SLR rate is determined and maintained by the RBI (Reserve Bank of India) in
order to control the expansion of bank credit. Generally this mandatory ration
is complied by investing in Govt bonds.
Present SLR is 24 %.as of Sept2011

7.  Repo Rate:
Whenever the banks have any shortage of funds they can borrow it from
RBI. Repo rate is the rate at which our banks borrow rupees from
RBI. A reduction in the repo rate will help banks to get money at a
cheaper rate. When the repo rate increases borrowing from
RBI becomes more expensive.
Present Repo Rate:8.25 % as of September 2011
 Reverse Repo rate:
Reverse Repo rate is the rate at which Reserve Bank of India (RBI)
borrows money from banks. Banks are always ready to lend money to
RBI since their money are in safe hands with a good interest. An
increase in Reverse repo rate can cause the banks to transfer more
funds to RBI due to this attractive interest rates. It can cause the
money to be drawn out of the banking system.
Present Reverse Repo Rate: 7.25% as of September 2001

8. 5. Bank Rate:
Bank Rate is the rate at which RBI allows
finance to commercial banks. Bank Rate is a
tool, which central bank uses for short-term
purposes. Any upward revision in Bank
Rate by central bank is an indication that
banks should also increase deposit rates as
well as Base Rate/ Benchmark Prime Lending
Rate(BPLR). Thus any revision in the Bank
rate indicates that it is likely that interest rates
on your deposits are likely to either go up or
go down, and it can also indicate an increase
or decrease in your EMI.