This document discusses inflation, its causes and methods for controlling it. It defines inflation as a general rise in prices over time which reduces purchasing power. Inflation is inversely related to unemployment and hurts investors. It is measured by price indices like the wholesale price index (WPI) and consumer price index (CPI). Causes include demand-pull, cost-push, and built-in inflation. Controlling inflation requires coordinated monetary policy like interest rate changes and fiscal policy like tax increases. Extreme, hyperinflation has devastated Zimbabwe's economy.

1. Inflation in Market Economies Causes and Control Presented by: Bharat Jhalani July 2008

2. Contents Meaning Inflation and Unemployment Inflation and Investments Measures of Inflation Causes of Inflation Controlling Inflation Hyper-inflation

3. Meaning One of the most important economic concepts is inflation. Inflation is a rise in general level of prices of goods and services over time. As the cost of goods and services increase, the value of a currency is going to go down because you won't be able to purchase as much with that currency as you could have last month or last year.

4. Inflation and Unemployment Modern economists believe that inflation is inversely related to unemployment. As inflation decreases, unemployment is expected to rise and vice-versa.

5. Inflation and Investments Inflation is greatly feared by investors because it grinds away at the value of your investments. If you invest $.100 in a 1-year CD that will re 5% over that year, you will be giving up $100 right now for $105 in 1 year. If over the course of that year there is an inflation rate of 6%, the purchasing power of $100 has decreased by $6, and you have actually lost ground! (Of course, the capital gains tax you pay on your "gain" will increase this loss.)

6. Measures of Inflation Inflation is measured by calculating the percentage rate of change of a price index, which is called the inflation rate. This rate is calculated by mainly two different price indices: 1. Wholesale price index 2. Consumer price index

7. Wholesale price index WPI is the index that is used to measure the change in the average price level of goods traded in wholesale market. India uses the WPI to calculate and then decide the inflation rate in the economy. WPI does not properly measure the exact price rise an end-consumer will experience because, as the name suggests, it is at the wholesale level.

8. Consumer price index CPI is a measure of a weighted average of prices of a specified set of goods and services purchased by consumers. It is a price index that tracks the prices of a specified basket of consumer goods and services, providing a measure of inflation. Most developed countries uses this index.

9. Causes There are three major types of inflation categorized by the causes: 1. Demand-pull inflation 2. Cost-push inflation 3. Built-in inflation

10. 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 favourable market conditions will stimulate investment and expansion.

11. Supply shock inflation caused by drops in aggregate supply due to increased prices of inputs E.g.: Take for instance a sudden decrease in the supply of oil, which would increase oil prices. Producers for whom oil is a part of their costs could then pass this on to consumers in the form of increased prices. supply-shock inflation involves a trickle down effect that will cause changes in many sectors of the marketplace

12. Built-in inflation induced by adaptive expectations, often linked to the "price/wage spiral" because it involves workers trying to keep their wages up (gross wages have to increase above the CPI rate to net to CPI after-tax) with prices and then employers passing higher costs on to consumers as higher prices as part of a "vicious circle."

13. Seigniorage The “revenue” raised from printing money is called seigniorage (pronounced SEEN-your-ige) To spend more without raising taxes or selling bonds, the govt can print money. Higher the money supply, higher the inflation.

14. Controls Inflation is a hydra header monster. It cannot be controlled by taking a single measure. However, if monetary and fiscal measures are wisely coordinated, it can greatly help in controlling the continuous process of rising prices.

15. Monetary policy Monetarists emphasize increasing interest rates (slowing the rise in the money supply) to fight inflation. Rates consists of: 1. CRR 2. Bank rate 3. Repo rate 4. Reverse Repo rate

16. Fiscal policy Keynesians emphasize reducing demand in general through fiscal policy. Increase taxes so less disposable income Reduce government spending to reduce demand. changing the import and export duties

17. Exchange rate By strengthening local currency against dollar will boost imports while discouraging exporters. Through selling of dollars. Example:- In the week ending June 13, RBI sold almost $5 billion from its reserves in the open market.

18. Budgetary measures The budgetary deficit should be kept low level. The government should give special attention to the production of cottons, wheat, vegetables, edible oil etc. it will have soothing effects on inflating.

19. Hyper-inflation Zimbabwe: 355,000%! The inflation in Zimbabwe for the month of March 2008 rose to 355,000%! Yes, 355,000 per cent! It more than doubled from the February figure of 165,000%..

20. Contd. Almost 80% of the nation is unemployed. The Zimbabwean central bank has introduced $500 million bearer cheques (or currency notes) for the public, and $5 billion, $25 billion, $50 billion agro-cheques for farmers. The nation had introduced $250 million bearer cheques.

21. Contd. A sausage sandwich sells for Zimbabwean $50 million. A 15-kg bag of potatoes cost Zimbabwean $260 million. But then, Zimbabwean $50 million is roughly equal to US$ 1