What is inflation?| Indian Economic Notes!

What is inflation?|

Indian Economic Notes!

Mr. UPSC Exam,

What is inflation?

★ Inflation is defined as an increase in the prices of food, clothing, housing, entertainment, transportation, consumer goods and many other everyday or common goods and services.

★ Inflation is defined as the average change in the prices of a basket of goods and services over time.

★ Deflation is an opposite and abnormal reduction in the price index of this bundle of goods.

★ Inflation is defined as a fall in the purchasing power of a country's currency unit. 

It is expressed as a percentage. 

In this article, we will look at what inflation is, different ways of measuring inflation and how inflation is measured in India.

Table of Contents :

1 Inflation

2 Different ways to measure

3 Measurement of Inflation in India

4 Conclusion

5 Frequently Asked Questions

6 MCQs

What is inflation?

★ Inflation is the rate at which the prices of goods and services rise in a given economy.

★ Inflation occurs when prices rise when production costs such as raw materials and wages rise.

★ Inflation can result from an increase in demand for goods and services because people are willing to pay more for them.

★ 1 liter of milk can be bought for Rs.50.  50 at the present time. Exactly 1 year ago 1 liter of milk cost us Rs.  40.

★ Here Rs.2000 has increased.  10 rupees or Rs.40 per liter of milk has reduced the purchasing power from buying 1 liter of milk to 800 ml in 1 year.

((50-40)/40)*100=25

★ So it can be said that there is 25% inflation in milk price compared to last year.

Different ways to measure inflation are: 

Consumer Price Index :

★ Consumers often buy directly from retailers.  As a result, retail store inflation is a true reflection of the country's inflation. 

★ It depicts the cost of living more accurately.

★ Consumer Price Index (CPI) is the name given in India to the index showing the rate of inflation at the retail level.  The CPI basket consists of 448 items in rural areas and 460 items in urban areas.

★ The economy had four consumer price indices, each covering a different socioeconomic group.  The four indices are Consumer Price Index for Industrial Workers (CPI-IW), Consumer Price Index for Agricultural Workers (CPI-AL), Consumer Price Index for Rural Workers (CPI-RL), and Consumer Price Index for Urban Non-Manual Workers.  (CPI-UNME) .

★ CPI now uses a new series based on base year 2012=100 for all India and states/UTs separately for rural, urban and aggregated. 

★ Consumer Price Indices are published by the Central Statistics Office (CSO), Ministry of Statistics and Project Implementation.

Different ways to measure inflation are: 

★ Consumer Price Index

★ Consumers often buy directly from retailers.  As a result, retail store inflation is a true reflection of the country's inflation. 

★ It depicts the cost of living more accurately.

★ Consumer Price Index (CPI) is the name given in India to the index showing the rate of inflation at the retail level.  The CPI basket consists of 448 items in rural and 460 items in urban areas.

★ The economy had four consumer price indices, each covering a different group of social goods.

★ The four indices are Consumer Price Index for Industrial Workers (CPI-IW), Consumer Price Index for Agricultural Workers (CPI-AL), Consumer Price Index for Rural Workers (CPI-RL), and Consumer Price Index for Urban Non-Manual Workers.  (CPI-UNME) .

★ CPI now uses a new series based on base year 2012=100 for all India and for States/UTs separately for rural, urban and combined. 

★ Consumer Price Indices are published by the Central Statistics Office (CSO), Ministry of Statistics and Project Implementation.

★ Consumer Price Index (CPI) is based on retail prices and is used to calculate Depreciation Rate (DA) for government employees.

Note: 

CSO was merged with National Statistics Office (NSO) after 2019.

Total Price Index :

★ In India, this is the most widely used method of calculating inflation rate.  The Wholesale Price Index (WPI) is an index used to calculate headline inflation.

★ This rate of inflation is commonly referred to as core inflation.  The Office of the Economic Adviser of the Ministry of Trade and Industry publishes the WPI.  Base year is linked to CPI as 2012=100.

★ Before 2014, RBI used WPI to take most of its policy decisions.  However, WPI-based inflation calculation is not a fallacy.  WPI shows total prices of 697 commodities.

★ However, WPI excludes services and does not account for disruptions between manufacturers and wholesalers or between wholesalers and retailers (consumers).

★ As a result, RBI switched to CPI for policy decisions from 2014 as part of reforms initiated by RBI Governor Raghu Ram Rajan.

Manufacturers Price Index :

★ To begin with, the Producer Price Index (PPI) measures the change in average prices received by producers, whereas the CPI measures the change in average prices paid by consumers.

★ Prices received by producers differ from prices paid by consumers due to various factors such as taxes, trade and transport margins, distribution costs, etc.

★ PPI is derived from Distribution Usage Table.

★ PPI estimates are used as deflators and index of contracts, among others.

★ India currently has no index to measure inflation at the producer level.

★  Although Producer Price Index (PPI) has been proposed, this type of inflation calculation is yet to be introduced in India.

★ New changes in WPI and excluding taxes while calculating WPI, bringing it closer to PPI reference.

Measuring Inflation:

Measuring Inflation in India:

★ Until 2014, India used the Whole Price Index (WPI) to calculate the rate of inflation in the economy.

★ However, as part of reforms initiated by RBI Governor Raghu Ram Rajan in 2014, the RBI switched to the CBI to better communicate policy decisions.

★ Since the WPI excludes services and has almost a quarter of the weightage for fuel and metals, it has been decided to switch to the CPI, which reflects actual inflation at the education, health and consumer levels.

Conclusion: 

Uncontrolled inflation has the potential to destroy an entire economy.  Consequently, an accurate measurement of inflation is required to make policy decisions that keep inflation rates under control.  Both the government and the central bank (Reserve Bank) use fiscal and monetary policies, referred to as fiscal and monetary policies respectively, to combat inflation.  A more accurate picture of inflation helps policymaking.