Explaining inflation in simple terms

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Explaining inflation in simple terms
Though we keep hearing the word inflation all the time, but on very few instances its explained, the assumption is always that everyone knows the term. So we look at this term in detail. In simple words, inflation means the rate at which price increases, this is always showed in percentage.

The price of sugar in June 2008 was around INR 18 per kg, in June 2009 the price of sugar had increased to INR 38 per kg.

As per the explanation in the first paragraph, the above situation would be stated as -- annual sugar inflation was 111.11 per cent , meaning sugar prices increased by 111.11 per cent over a period of one year.

Now coming to the complex part, the word 'inflation', that is being touted in the media all the time is 'headline inflation'. It is called headline inflation because of the importance that the media allows to this figure, which is expected to show the real inflationary scenario in the country. It is calculated by the Ministry of Statistics and Programme Implementation in India.

The ministry takes a basket of products ranging from edibles, manufacturing, industrial etc. And then each item in the basket is assigned a weightage; the total figure achieved from adding all the weighted numbers are compared; the percentage of change to current year from the previous year is our inflation figure used in the headlines.

The problem with this method is, the item which will have more weightage in the basket will dictate the inflation numbers. Precisely the reason that many times when you are shopping, it may dawn that the numbers thrown by the media is different from your experience. While you would read that inflation is 10 per cent, you tend to find that prices of product, oil etc has increased more than that.

Inflation reduces the purchasing power of an individual, for every rupee will buy a smaller percentage of a product. For example, if the inflation rate is 10 per cent, then a cup of tea which used to cost INR 10 has seen cost increase by INR 11 in one year's time.

The government in India believes that a mild inflation, i.e. in range of 2 to 4 per cent, is important for a country"s economic growth. Hyper-inflation, stagflation or deflation are all considered to be serious economic threats.

Stagflation is a situation in which the inflation rate is high and the economic growth rate is low, one of the example of what happened in United States during the 1970s, during the oil crisis.

Meanwhile deflation is the term when the inflation is in the negative region, this increases the value of money - more products can be bought with the same amount of money. (opposite of inflation)

Where as when inflation reduces from its previous level but it is not less than zero, then it is known as 'disinflation'.

OneIndia Money

Read more about: inflation, price rise, economy
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