Inflation | Economy | Market | 20th February 2022 | Virtual Wire
Inflation is the rate of increase in prices over a given period. It is a sustained rise in the general price level as a result of an increase in demand without an equal increase in supply.
Price instability is a common feature of any economy- developed, developing, or under-developed. Fluctuations in prices lead to an uncertain and unfavourable economic atmosphere. Such uncertainty does not lend itself to any kind of development activity. Stability in prices is an important condition for efficient and stable economic activity.
While inflation is a common feature, there is no single cause or theory that explains it. Some economists attribute inflation to the excess in money supply, which is a direct consequence of ever-increasing deficit financing (government borrowings to finance expenditure) and a rise in demand for goods and services. Some others believe that inflation arises from supply inflexibilities, macroeconomic structural constraints, imbalances, etc. In India, inflation is seen as a result of a combination of all these factors. Inflation reflects the broad rise of prices or the fall in the value of money. It generally results from too much demand chasing too few goods or limited services, leading to price increases. Let us look at the factors individually:
There has been a sustained rise in government expenditure over the past few decades. From a few thousand crores in the 1950s, the government’s annual expenditure is over twenty lakh crore rupees. Continuous increase in expenditure has the effect of placing more money in the hands of the general public. This, in turn, leads to a rise in purchasing power, which drives up the demand for goods and services. In the short run, supply rarely increases in proportion to demand, due to structural imbalances. Thus, the shortage in the supply of goods in proportion to demand results in a rise in the price level, i.e results in inflation.
Also increasing government expenditure financed, in part, through deficits, also called deficit financing, directly pushes up the money supply. The huge increase in money supply, in the economy, has a direct bearing on the demand for goods and services, and therefore, on the price level. Two other major demand pulls factors include pressure from a rapidly rising population and widespread speculation and hoarding in the case of many essential goods.
Some economists attribute inflation to cost-push factors like volatile fluctuations in output, an upward revision of administered prices, i.e. prices determined by the central government like in the case of LPG and Kerosene, and external factors like oil price and global inflation. In a developing country like ours, supply shocks play an important role in pushing up the cost-push inflation.
IMPACT ON COMMON PERSON
Rapidly rising inflation leads to falling in the purchasing power of money. In other words, the purchasing value of money comes down during an inflation situation.
WPI AND CPI
The Wholesale Price Index (WPI), prepared by the central statistical organization includes all important and price-sensitive goods which are traded in the wholesale markets throughout India. The articles in the WPI consist of major foodstuffs, raw materials, semi-manufactured goods, and manufacturers. The purpose of WPI is to measure the general purchasing power of the rupee in India. The base year of WPI is 2011-12. The new series of index numbers of wholesale prices was introduced in May 2017.
The CPI for the industrial workers and CPI for urban non-manual employees are of great practical significance as they represent the movement of the cost of living to the working classes. The level of wages –or more correctly, the dearness allowance – is linked to the cost of living index in such a way that whenever the CPI rises by a certain number of points, the money wage or dearness allowance of the workers will have to be raised by a certain amount.