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Presented by,
Savithri.H
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‡ Inflation generally means rise in
prices.
‡ Inflation is an increase in the
price of a basket of goods and
services that is representative of
the economy as a whole.
‡ It is a persistence and substantial
rise in general level of prices
after full employment level of
output.
 


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‡ Demand-pull inflation: refers to the idea that the economy
actually demands more goods and services than available. This
shortage of supply enables sellers to raise prices until an
equilibrium is put in place between supply and demand.
‡ The cost-push theory, also known as ³supply shock inflation´ ,
suggests that shortages or shocks to the available supply of a
certain good or product will cause a ripple effect through the
economy by raising prices through the supply chain from the
producer to the consumer. This can be seen in oil-markets.
When OPEC reduces oil-supply, prices are artificially driven
up and result in higher prices at the pump.
‡ Money supply plays a large role in inflationary pressure. Economists
believe that if the Federal Reserve does not control the money supply
adequately, it may actually grow at a rate faster than that of potential output
in the economy or real GDP. This will drive up prices and hence causes
inflation.
‡ Low interest rates corresponds with high levels of money supply and allow
for more investment in big business and new ideas which eventually leads
to unsustainable levels of inflation. The credit crisis of 2007 is a good
example of this at work.
‡ Inflation can artificially be created through a circular increase in wage
earners demands and then the subsequent increase in producer costs which
will drive up the prices of their goods and services. This will then translate
back into higher prices for the wage earners or consumers.
‡ As demands go higher from each side, inflation will continue to rise.
  

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v Creeping inflation-Occurs when the general price level rises
persistently over a period of time at a mild rate. When the rate
of inflation is less than 10 percent annually or in single digit it
is said to be moderate inflation.
v Galloping inflation-If the inflation is mild or if it is
uncontrollable, it is the character of galloping inflation.
Inflation in double digit or triple digit say 20, 100 percent it is
called galloping inflation. Many Latin American countries
such as brazil, Argentina had inflation of 20 to 100 percent
during 1970s.
v Hyperinflation-It is a stage of very high rate of inflation.
Hyperinflation occurs when the prices go out of control and
the monetary authorities are unable to impose any check on it.
v Deflation- It occurs when the general level of prices is falling.
It is opposite of inflation.
‡ A.C. PIGOU defines deflation as a´ state of falling prices
which occurs at the time when the output of goods and
services increases more rapidly than the volume of money
income in the economy.´ Deflation results in
A fall in the general level of prices
Increase in the value of money
A decline in effective demand and
An increase in unemployment
v Reflation-It refers to a state of affairs under which
controlled inflationary conditions are created to overcome
deflationary situation in the economy.
‡ It is an inflation deliberately undertaken to relieve
depression.
‡ Deflation if continues for a long period has its negative
effect that is, to revive the economy from recession or
depression reflation is resorted to.
‡ Reflation is expected to result (1) a gradual increase in
price level.(2) decline in unemployment and(3) increase in
output. Reflation is brought about through a gradual
increase in money supply.
v Disinflations-It is a situation where the government or
monetary authorities adopt measures to arrest inflation
through corrective measures.
‡ Disinflation occurs when inflation is brought to normal level.
It is mild form of deflation but without its serious negative
effects.
‡ Monetary and fiscal measures are adopted to bring in the
disinflationary condition.




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‡ Investment
‡ Interest rates
‡ Income distribution
‡ Employments
‡ Farmers
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‡ India uses the Wholesale Price Index(WPI)
to calculate the inflation rate.
‡ Most developed countries use the Consumer
Price Index/(CPI) to calculate inflation as
this actually measures the increase in price
that a consumer will ultimately have to pay
for.
‡ Presently 145 Countries practice CPI
compared to 27 percent practicing WPI.
v Wholesale Price Index(WPI): WPI is the
index that is used to measure the change in
the average price level of goods traded in
wholesale market.
‡ In India, a total of 435 commodities data on
price level is tracked through WPI. WPI is
available now in monthly basis.
v Consumer Price Index(CPI): CPI is a
statistical time-series 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.
 INFLATION CHART FROM 2006-2009

Ôear Jan Feb Mar Apr May Jun Jul Aug Sep Oct Nov Dec

2009 10.45 9.63 8.03 8.70 8.63 9.29 11.89 11.72 11.64 11.49 -10.45 -9.70

2008 5.51 5.47 7.87 7.81 7.75 7.69 8.33 9.02 9.77 10.45 10.45 9.70

2007 6.72 7.56 6.72 6.67 6.61 5.69 6.45 7.26 6.40 5.51 5.51 5.51

2006 4.39 5.31 5.31 5.26 6.14 7.89 6.90 5.98 6.84 7.63 6.72 6.72



 
 
  
    
  



 



 MEASURES TO CONTROL INFLATION
‡ Monetary policy
‡ Instruments used to control credit;
v Quantitative or general measures:
1. Bank rate policy
2. Open market operations
3. Variable reserve requirement-2 types:
‡ Cash Reserve Ratio
‡ Statutory Liquidity Ratio
v Qualitative measures:
1. Margin requirement
2. Consumer credit regulations
3. Issue of Directives
4. Rationing of credit
5. Moral suasion
 INTEREST RATE
‡ DEFINITION:
A rate which is charged or paid for the use of money is called
the interest rate.
‡ An interest rate is often expressed as an annual percentage of
the principal.
‡ It is calculated by dividing the amount of interest by the
amount of principal.
‡ Interest rate often change as a result of inflation and Federal
Reserve Policies.
 INRODUCTION
‡ Interest and Inflation are key to investing decisions, since they
have a direct impact on the investment yield.
‡ When prices rise, the same unit of a currency is able to buy
less.
‡ Investors aim to preserve the value of their money by opting
for investments that generate yields higher than the rate of
inflation.
‡ In most developed economies, banks try to keep the interest
rates on savings accounts equal to the inflation rate.
‡ However, when the inflation rate rises, companies or
governments issuing debt instruments would need to lure
investors with a higher interest rate.
 RELATIONSHIP BETWEEN INFLATION
AND INTEREST RATE
‡ Inflation is an autonomous occurrence that is impacted by
money supply in an economy. Central governments use the
interest rate to control money supply and, consequently, the
inflation rate.
‡ When interest rates are high, it becomes more expensive to
borrow money and savings become attractive.
‡ When interest rates are low, banks are able to lend
more, resulting in an increased supply of money.
‡ Alteration in the rate of interest can be used to control inflation by
controlling the supply of money in the following ways:
A high interest rate influences spending patterns and shifts consumers and
businesses from borrowing to saving mode. This influences money supply.

A rise in interest rates boosts the return on savings in building societies and
banks. Low interest rates encourage investments in shares. Thus, the rate of
interest can impact the holding of particular assets.

A rise in the interest rate in a particular country fuels the inflow of funds.
Investors with funds in other countries now see investment in this country
as a more profitable option than before.
 INFLATION AND INTEREST RATES:EFFECT ON
THE TIME VALUE OF MONEÔ
‡ Inflation has a significant impact on the time value of money
(TVM). Changes in the inflation rate (whether anticipated or
actual) result in changes in the rates of interest.
‡ Banks and companies anticipate the erosion of the value of
money due to inflation over the term of the debt instruments
they offer. To compensate for this loss, they increase the
interest rates.
‡ The central bank of a country alters interest rates with the
broader purpose of stabilizing the national economy. Investors
need to keep a close watch on interest and inflation to ensure
that the value of their money increases over time.