economics for managers - session 18

8/3/2019 Economics For Managers - Session 18

1/14

PSG INSTITUTE OF MANAGEMENT

MBA 2011-13 BATCH

I Trimester

Session XVIII- For Batch C and DBusiness Decisions and Government -4

-Inflation

ECONOMICS FOR MANAGERS


2/14

Inflation We saw in the 15th session what inflation is. Inflation happens when the Aggregate

Demand curve gets shifted to the right dueto whatever reasons and in that process

pushing up the general price level. If theAggregate Demand curve keeps shiftingmonth after month the economy will sufferfrom inflation.

Inflation is an increase in the price of abasket of goods and services that isrepresentative of the economy as a whole.

18th October 20112 EFM Faculty P.Uday Shankar


3/14

Two ways of looking at inflation

1. Inflation in economic terms is the percentage by

which demand is higher than the supply. Forexample, if the inflation rate is 5% for aparticular item, it means that the demand is 5%more than the total supply of that particular

item.2. Inflation can also be defined as an increase in

the general level of price of goods and servicesover a period of time. It is measured as an

annual percentage increase and is a majorconcern for common people. It negativelyaffects the purchasing power of money as youcan buy less of goods and services with same

amount of money. 18th October 2011

3 EFM Faculty P.Uday Shankar


4/14

Facts to remember about inflation

Historically you will not find any period when

inflation was not present. While deflation (falling prices) is normally

associated with low rates of growth and evenrecession, on the contrary it would seem that for

a healthy economy inflation is required. While any rate below 4% or 5% inflation does not

necessitate pressing the alarm bell, any rateabove 5% is seen as a cause for concern.



5/14

Why is a high rate of inflation undesirable?

Redistribution of income and wealth:

Redistribution of wealth may take place fromcreditors to debtors. This is because debts losereal value with inflation. During times of inflationthose with economic powers tend to gain at theexpense of the weak, particularly those with fixed

incomes. Balance of payments:

If a country has a higher rate of inflation than itsmajor trading partners, its exports will relatively

become expensive and imports relativelycheaper. As a result, balance of trade will affectfor eg. employment in export industries. This willeventually affect exchange rates too.



6/14

Why is a high rate of inflation undesirable?

Uncertainty of the value of money and prices:

As markets are unpredictable prior informationon values of money or prices are difficult to get.While small increases in prices can be faced byconsumers, excessive inflation in the form ofhyper-inflation may result in money becomingworthless and people may resort to barter. Insuch situations rational decision making is nearto impossible.

High Inflation rates affect economic growth and

level of investment:Studies on comparison of inflation rates and percapita GDPs have proved that persistentinflationary tendencies affect economic growth

and levels of investment. 18th October 20116 EFM Faculty P.Uday Shankar


7/14

Causes of Inflation

Demand Pull factors

Cost Push factors Pricing Power factors

Import cost factors

Excessive growth in the money supply

Skewed Inflation or Skewflation



8/14

Causes of Inflation- Demand Pull Inflation

This happens when the economy is buoyant andthere is a high aggregate demand, in excess of the

countrys ability to supply. Price increases as aggregate demand exceeds

aggregate supply.

As supply needs to be increased, there will be a

demand on factors of production and as a chaineffect factor rewards will increase.

This can be described as too much money chasingtoo few goods. India being a growing economy hasexperienced this type of inflation for years. Almost all

industries in India face demand pull inflationespecially when it comes to the technology drivenindustry like Automobile, Consumer Electronics.



9/14

Causes of Inflation- (contd.)

Cost Push Inflation:

This is also known as supply shock inflation. Whenthere is shortage of a particular product it causes theprice levels to rise which has a ripple effect on theeconomy thus leading to inflation.

Cost Push Inflation happens when the cost of factors

of production rise regardless of whether they are inshort supply or not.

Egs. Sudden increase in raw materials cost, wageincreases,.

Pricing Power Inflation: This type of inflation is caused by business houses

who tend to increase prices to increase their profitmargins. It is more common in oligopolisticeconomies.



10/14

Causes of Inflation- (contd.)

Import Cost Push Inflation:

This inflation happens when the cost of essential imports rise

regardless of whether or not they are in short supply. Eg. Pricerise in crude oil prices.

Excessive Growth in Money Supply:

Monetarists argue that inflation can be caused by an increase inmoney supply. Eg. When government makes pay commissionincrements and arrear payments

Skewed Inflation or Skewflation

The recent rise in inflation has been termed as skewflation or

skew inflation. This term has been coined observing the unusualinflation wherein there was huge inflation in the food sector withthe non-food sector remaining more or less constant.



11/14

How inflation is calculated

How is inflation calculated in India?

India uses the Wholesale Price Index (WPI) to calculate

inflation. Most developed countries use the Consumer PriceIndex (CPI) to calculate inflation.

What is Wholesale Price Index (WPI)?

Wholesale Price Index (WPI) is the index that is used tomeasure the change in the average price level of goods traded

in the wholesale market. In India, a total of 435 commoditiesdata on price level is tracked through WPI which is an indicatorof movement in prices of commodities in all trade andtransactions. WPI is published on a weekly basis in India.

What is Consumer Price Index (CPI)?

CPI is a statistical time-series measure of a weighted averageof prices of a specified set of goods and services purchased byconsumers. It is a price index that tracks the prices of aspecified basket of consumer goods and services, providing ameasure of inflation. In India, CPI is published on a monthly

basis. 18th October 201111 EFM Faculty P.Uday Shankar


12/14



13/14



14/14

Case Study: The Wall Street Protestors

Here Are The Four Charts That Explain What The

Protesters Are Angry About...

Henry Blodget

http://www.linkedin.com/news?actionBar=&articleID=844191998&ids=0RcjgQd3kNd3wId3oTdzoQd3gUb3wVej4VcjgQe2MQczwSczkOd3wIczsPcz4PejcU&aag=true&freq=weekly&trk=eml-tod-b-ttle-68&ut=0qHYlP2o0-pkY1http://www.linkedin.com/news?actionBar=&articleID=844191998&ids=0RcjgQd3kNd3wId3oTdzoQd3gUb3wVej4VcjgQe2MQczwSczkOd3wIczsPcz4PejcU&aag=true&freq=weekly&trk=eml-tod-b-ttle-68&ut=0qHYlP2o0-pkY1http://www.linkedin.com/news?actionBar=&articleID=844191998&ids=0RcjgQd3kNd3wId3oTdzoQd3gUb3wVej4VcjgQe2MQczwSczkOd3wIczsPcz4PejcU&aag=true&freq=weekly&trk=eml-tod-b-ttle-68&ut=0qHYlP2o0-pkY1http://www.businessinsider.com/author/henry-blodgethttp://www.businessinsider.com/author/henry-blodgethttp://www.linkedin.com/news?actionBar=&articleID=844191998&ids=0RcjgQd3kNd3wId3oTdzoQd3gUb3wVej4VcjgQe2MQczwSczkOd3wIczsPcz4PejcU&aag=true&freq=weekly&trk=eml-tod-b-ttle-68&ut=0qHYlP2o0-pkY1http://www.linkedin.com/news?actionBar=&articleID=844191998&ids=0RcjgQd3kNd3wId3oTdzoQd3gUb3wVej4VcjgQe2MQczwSczkOd3wIczsPcz4PejcU&aag=true&freq=weekly&trk=eml-tod-b-ttle-68&ut=0qHYlP2o0-pkY1http://www.linkedin.com/news?actionBar=&articleID=844191998&ids=0RcjgQd3kNd3wId3oTdzoQd3gUb3wVej4VcjgQe2MQczwSczkOd3wIczsPcz4PejcU&aag=true&freq=weekly&trk=eml-tod-b-ttle-68&ut=0qHYlP2o0-pkY1http://www.linkedin.com/news?actionBar=&articleID=844191998&ids=0RcjgQd3kNd3wId3oTdzoQd3gUb3wVej4VcjgQe2MQczwSczkOd3wIczsPcz4PejcU&aag=true&freq=weekly&trk=eml-tod-b-ttle-68&ut=0qHYlP2o0-pkY1

economics for managers - session 18

Documents