Definition Of

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Definition of 'Inflation'
The rate at which the general level of prices for goods and services is rising, and,
subsequently, purchasing power is falling. Central banks attempt to stop severe inflation,
along with severe deflation, in an attempt to keep the excessive growth of prices to a

Types and causes of inflation
Demand Pull inflation
This type of inflation results due to the increase in Aggregate demand in the economy. The movement of
aggregate demand from AD1 to AD2 results in an increased average price level in the economy i.e. P1 to

Demand pull inflation is caused due to the changes in the determinants of AD. Whenever, any of the
components of AD (i.e. consumption, investment, government spending and net exports) will increase,
this will result in an increase in aggregate demand.
Cost Push Inflation
Increase in cost of production will result in cost push inflation. As the cost of production increases, the
firms will reduce supply. The aggregate supply will shift to the left, from SRAS1 to SRAS2. This will result
in an increase in the average price level in the economy. Real output will fall.

Cost Push inflation is mainly caused due to the following factors:
· increase in wages (wage push inflation)
· increase in cost of raw materials
· increased cost of imported components (import-push inflation)
Inflationary Spiral

It is self-sustaining upward trend in general price levels due to interaction of demand pull and cost push
inflation. It is also known as Wage price spiral. High cost of living prompts demands for higher wages
which push production costs up forcing firms to increases prices, which in turn trigger calls for fresh wage
increases ... and so on.

Monetarists view of inflation
As per monetarists (new classical economists) inflation is caused due to the excessive supply of money in
the economy. According to monetarists an increase in money supply results in higher aggregate demand
from AD1 to AD2. Monetarists assume the economy to operate as full employment level of output, thus,
any increase in AD is purely inflationary.

The first panacea for a mismanagement nation is inflation of the currency. The second is war. Both bring
a permanent ruin. They both are the refuge of political and economic opportunists. (Ernest Hemigway).
To avoid political unrest and harmful, social and economic effects on the economy, it is the main
objective of every government to take appropriate measures to control inflation. The main measures
which are used to control inflation are (1) Monetary Policy (2) Fiscal Policy and other measures:

(1) Monetary Policy
Monetary policy is a policy that influences, the economy through changes In the ‘money supply and
available credit Monetary policy is adopted by central bank of a country. The various monetary
measures which are used to control inflation are grouped under two heads (a) Quantitative controls (b)
Qualitative controls. They are (1) Open market operations (ii) Variation in bank rates (iii) Credit rationing
(iv) Varying reserve requirements (v) Varying margin requirements (vi) Consumer credit regulations
(Please refer to Chapter on Central Banking).

(2) Fiscal Policy
Fiscal policy is the deliberate change in either government spending or taxes to stimulate or slow down
the economy. It is the budgetary policy of the government relating to taxes public expenditure, public
borrowing and deficit financing. Fiscal policy is based upon demand management i.e., raising or lowering
the level of aggregate demand by controlling various expenditures, government expenditure,
consumption expenditure and investment expenditure. The main fiscal measures are:

(i) Changes in Taxation. If the govt., of a country brings about changes in tax rates, it can help in
stabilization of prices in the country. For example, a decrease in taxes rates, increases disposable income
in relation to national income. Hence, consumption rises at every level of national income. With the
increase in aggregate demand for goods, the employment goes up in the country. A rise in tax rates has
the opposite effect. A rise in taxes causes a decrease in disposable income, creates a larger budget
deficit and brings relief from inflation.

(ii) Changes in Govt. Expenditure. If inflation is at or above the level of full employment in the country,
the government can bring down price level by curtailing its own unproductive expenditure.

(iii) Public borrowing. Public borrowing is another effective method of controlling inflation. Public
borrowing reduces the aggregate demand for goods and hence price level.

(iv) Balanced budget changes. A balanced budget decrease has a mild contractionary effect on national
income and hence on bringing down the price level.

(v) Control of deficit financing. For financing the budget deficit, the govt., often resorts to deficit
financing. The bank borrowing and printing of new notes increases the money supply in the country and
pushes up the price level. Deficit financing therefore, should be avoided to control inflation.

(3) Others Measures:
Apart from fiscal and monetary measures, the other measures which are helpful in controlling inflation
(a) Price support programme
(b) Provision of subsidies
(c) Arrangements of easy availability of goods on hire purchase to stimulate demand.
(d) Imposing direct control on prices of essential items.
(e) Rationing of essential consumer goods in case of acute emergency holding of Friday and Sunday

Since 1950’s, the control of inflation has become the chief objective of both developing and developed
countries of the world. The governments, therefore, take monetary, fiscal and other measures to
combat inflation.�

The inflation rate in India was recorded at 4.70 percent in May of 2013. Inflation Rate in India is reported by the Ministry of
Commerce and Industry. Historically, from 1969 until 2013, India Inflation Rate averaged 7.73 Percent reaching an all time
high of 34.68 Percent in September of 1974 and a record low of -11.31 Percent in May of 1976. 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). Food Articles from the Primary Articles Group account for 14.3
percent of the total weight. The most important components of the Manufactured Products Group are Chemicals and
Chemical products (12 percent of the total weight); Basic Metals, Alloys and Metal Products (10.8 percent); Machinery and
Machine Tools (8.9 percent); Textiles (7.3 percent) and Transport, Equipment and Parts (5.2 percent). This page includes a
chart with historical data for India Inflation Rate.





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