Download Inflation and Deflation: Meaning, Measures and Impact

By: Mrs Prabhjot Kaur
Lecturer
SBSBS, TU
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In a broad sense, inflation is that state in
which the prices of goods and services rise
on the one hand and value of money falls
on the other
When money circulation exceeds the
production of goods and services, then
inflation takes place in the economy
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It is a continuous process.
It refers to a rise in prices in general.
It involves a considerable increase in prices.
It causes a decline in the purchasing power of
money.
1.
2.
Demand Pull Inflation
Cost Push Inflation
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I.
II.
III.
IV.
The demand for goods and services increases and
production remains the same or does not increase as
fast. The excess demand results in prices being “pulled
up”.
Affected by:
Greater spending by households(C) (Also because
credit has become more readily available).
Investment spending by firms increases as a result of
a drop in interest rates and/or a positive business
climate (I).
Increased government spending (G).
Higher earnings from exports (X).
Demand Pull Inflation
Price $
Aggregate Supply
P2
Aggregate Demand 2
P1
Aggregate Demand 1
Q1
Q2
Real GDP ($)
6
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Caused by an increase in the cost of production.
Increased costs “push up” the price level.
Affected by:
I.
Wages (increases in wages and salaries).
II.
Increase in price of key imported inputs.
III. Exchange rate depreciation.
IV. Increase in profit margins.
V.
Decrease in productivity for the same
remuneration.
VI. Natural disasters.
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Cost Push Inflation
Price $
Aggregate Supply 2
Aggregate Supply 1
P2
P1
Aggregate Demand
Q2
Q1
Real GDP ($)
8
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Inflation impacts negatively on economic
growth.
Inflation brings about uncertainty in the
economy.
Savings and investment are discouraged.
Inflation affects the distribution of income.
Redistributes income from people with fixed
incomes to those with flexible incomes.
Redistributes income from private individuals to
the government.
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Causes fiscal drag and bracket creep: salary
increases move people into higher tax
brackets and they could be effectively worse
off.
Inflation has an adverse effect on a
country’s balance of payments.
If India’s rate of inflation is higher than that
of our trading partners the result is a loss
of international competitiveness.
Inflation can cause a decrease in the real
money value of savings.
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Fiscal Measures
Monetary Measures
General Measures
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Increase direct taxes.
Increase indirect taxes.
Reduce government spending.
Introduce measures to increase productivity,
e.g. tax rebates
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Increase interest rates of banks.
Decrease money supply.
Decrease availability of credit from banks.
Decrease currency control.
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Increase productivity.
Freeze prices and wages.
Implement a wage restraint policy.
Encourage personal savings.
Implement control measures for consumer
credit.
Import control: make competing imported
goods cheaper.
Introduce price indexation: linking all prices
to a particular index, e.g. CPI.
Inflation targeting.
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The inflation rate in India was recorded at 5.96
percent in March of 2013,which is reported by
the Ministry of Commerce and Industry
In India, the wholesale price index (WPI) is the
main measure of inflation.
The WPI measures the price of a representative
basket of wholesale goods.
In India, wholesale price index is divided into
three groups: Primary Articles (20.1 percent of
total weight), Fuel and Power (14.9 percent) and
Manufactured Products (65 percent).
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Deflation is that state in which the value of
goods and services falls
A sustained decrease in average price level is
called deflation
Prices fall
opposite of inflation
Not the same as disinflation, which is a
reduction in the rate of inflation
The inflation rate measures the trend in the
average price level
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Govt. withdraws money from circulation
Govt. imposes heavy direct taxes or takes heavy
loans from the public
Central bank sells the securities in open market
Central bank controls the credit money and
adopts various measures such as increase in
CRR, credit rationing and direct action
The central bank increases the bank rate
State of over-production takes place in the
economy
1.
2.
3.
4.
5.
6.
To increase money supply
To promote credit creation by the banks
Curtailment in taxes so as to increase the
purchasing power of the people
To increase the public expenditure and to
increase the employment opportunities in the
economy
To increase the money supply in circulation by
repayment of old public debts
To provide economic subsidy by the govt. to the
industrial sector of the economy