How Does Inflation Wipe Out Your Money?

How Does Inflation Wipe Out Your Money?

You must have often noticed the increase in price of our daily use commodities. What causes such rise? Why is the rise so worrisome and how does it erode our currency’s purchasing power? Read the story to find out the effect of inflation.

Crux of the Matter

What Is Inflation?
It is rise in general price level of commonly used goods and services and is accompanied by reduced purchasing power of our money. But how?

Price Of Apple

To put it in another way: ₹30 which fetched you a kg of apple in 2010 will be able to get you only 300 gram in 2020. Thus, with inflation, the value or the purchasing power of your money decreases as the same amount of currency now buys lesser quantity of the same goods.

Consumer Price Index

Reasons For Inflation

Cost Push Inflation:
Increase in cost of raw materials leading to rise in the price of final product.

Demand Inflation:
Increase in demand of goods and services that lifts the price of the final product.

Inflation by Printing Money:
Governments in order to stimulate the economy resorts to printing currency, after which,

  1. Money supply increases.
  2. Households hold more cash to spend.
  3. Increases demand of goods and services.
  4. Price of goods increases.

Is Inflation Bad Though?

  • Not really- assume that there is a persistent mild level of inflation in the economy.
  • Thus, a good is cheaper today than at some later date.
  • This induces consumers to buy now rather than paying higher prices in future.
  • Thus demand of the good increases 
  • This increases demand of goods and services.
  • Final outcome: Increase in consumption decrease in unemployment, overall boost in economic growth activities 

  • Hungary experienced its worst case of hyperinflation from August 1945 to July 1946. It had an equivalent daily inflation rate of 207% and it took just 15 hours for prices to double.

Will US’ Stimulus Package Mess Up Inflation?

Will US' Stimulus Package Mess Up Inflation?

Many top US economists including Laurence Summers, former economic adviser to Barack Obama have rebuked the move of pouring multiple stimulus packages into the US economy. Since the onset of pandemic, the US has pumped~ $5 trillion. As per Summers, such huge influx will heat the economy, leading to high levels of inflation. However, most of the economists do not support this argument and believe that monetary and fiscal stimulus are required to stir up the economy. Read the full story to find out more.

Crux of the Matter

What is Inflation?
Inflation is an increase in price of goods and services. For eg.: price of a cup of coffee increased from $0.25 in 1970 to $1.59 in 2019. This increase in price happened over time.

Why Should You Worry About Inflation?

  • 2019: If an apple costs $2, for $6, you could purchase 3 apples.
  • 2021: With inflation, each apple now costs $3, and with the same $6 you can buy only 2 apples now.

Meaning: With inflation, the value or the purchasing power of your money diminishes.

Buzz Around US Inflation

Breaking Down The Graph

In April 2021, the US recorded a steep rise in inflation of 4.2% as compared to April 2020. This has been the highest inflation increase since September 2008 at 4.9%. However, the US central bank, Federal Reserve has the inflation target of 2%.

What is US Stimulus Package Doing?
It was introduced to improve up the economy. Government is directly sending money to people to increase consumer spending.

Timeline of Cheques Sent

But How Is Inflation Related With Stimulus Package?

  • Stimulus checks will increase money with individuals.
  • This in turn will increase spending of the individuals.
  • Eventually, demand will spike and hence price of goods and service will increase leading to inflation.

Is Inflation Really Bad Though?
Some amount of inflation is a sign of growing economy. However, too much of it leads to hyperinflation, like seen in Venezuela
at 65,374% in 2018. The money became so worthless that purses made out of currency notes were sold.

  • Iranian Rial is the world’s weakest currency. 1 Iranian Rial = 0.000024 United States Dollar.
  • Western Europe underwent a ‘price revolution’ from the 15th to 17th century as the prices of goods and services increased sixfold during that period. This happened because of the sudden influx of gold and silver into the market from the ‘New World’.
  • When the inflation rate becomes negative, it is called deflation. This means more goods and services can be availed at a lesser price. Deflation mostly occurs when supply is high but the demand is low.

Food Inflation Eases to Nine-Month Low

Food Inflation Easy to Nine-Month Low

Food inflation in India eased to a nine-month low of 7.87% in June, whereas overall inflation in June stood at 6.09% compared to 5.84% in March. But what is inflation? What do the terms WPI and CPI that you keep hearing in the news mean? Let’s break it down and understand it.

Crux of the Matter

Eased Food Inflation
The government released data on inflation after a gap due to Covid-19 lockdown. The indicators say that food inflation eased to a nine-month low of 7.87% in June and headlines inflation in June stood at 6.09% which is higher than 5.84% in March. Despite lower food inflation, headline inflation remained higher due to high inflation in items like fish and meat (16.2%), oils and fats (12.3%), pulses (16.7%) as well as by pan, tobacco, intoxicants (9.7%) and personal care services (12.4%).

What Is Inflation?
Inflation means a rise in the price of a commodity in the market. Inflation negatively affects the consumers as it decreases the consumers’ purchasing power. However, a prolonged period of high inflation in any commodity also affects the producers. In that case, the income of producers decreases, and operational cost increases resulting in losses or reduced income for producers. Moreover, a scenario of reducing prices is called deflation.

Understanding CPI and WPI
Consumer Price Index (CPI) is a benchmark index for calculating inflation in an economy. CPI measures the average change in prices over time that consumers pay for a basket of goods and services for household consumption. CPI basket Includes transportation, food, medical care, recreational activities, housing, apparel, education, and other goods and services.

Earlier, India used the Wholesale Price Index (WPI) index to calculate inflation. WPI is an indicator of price changes in the wholesale market – includes only the basket of Goods. It comprises three major elements: Primary Articles (22.62% of total weight), Fuel and Power (13.15%), and Manufactured Products (64.23%). WPI declined to 1.81 % in June. It fell from a 4.5 year high of 3.21%.

Food Surplus In India
Food Corporation of India, State government agencies, and the National Agricultural Cooperative Marketing Federation of India confirmed having current grain stock higher than the buffer and strategic norms. It means the government is having surplus grain to extend food distribution aid for poor people. The stocking norm of rice is 13.6 million tonnes while for wheat it is 7.5 million tonnes as on April 1. Stocking norms refer to the level of stock in the Central Pool that is sufficient to meet the operational requirement of foodgrains and exigencies at any point in time.

  • RBI was conceptualized as per the guidelines, working style and outlook presented by Dr. B.R. Ambedkar in his book titled “The Problem of Rupee – Its origin and its solutions” and presented to the Hilton Young Commission. Eventually, Central Legislative Assembly passed these guidelines as the RBI Act 1934.
  • Rice Vaughan was a seventeenth-century lawyer and economist known for writing a seminal work on economics and currencies entitled A Discourse on Coins and Coinage. This book contains the earliest reported research in the area of price level changes. Hence, Vaughan can be considered a forerunner of price index research but his analysis did not actually involve calculating an index.
  • The Price Revolution was a series of economic events that occurred between the second half of the 15th century and the first half of the 17th century, and most specifically linked to the high rate of inflation that occurred during this period across Western Europe. Prices rose on average roughly sixfold over 150 years.