By Sujata Regoti 2013BIT039

Two Methods Of Measuring Inflation

1)By Percentage change in Price Index Number(PIN). A) Consumer Price Index(CPI)

B)Wholesale Price Index(WPI) 2)By Change in GDP deflator

Price Index

• Market Basket : number of goods that are representative of economy that are put together• The cost of this basket is compared over time• This results in Price Index

CPI

• A consumer price index (CPI) measures changes in the price level of a market basket of consumer goods and services purchased by households.

• The annual percentage change in a CPI is used as a measure of inflation.

Example :our hypothetical market basket is made up of movie related

goods and services.

Calculating Our “CPI”

• We first need to determine the base year. • Suppose we choose the base-year to be 2006 • The quantities purchased in 2007 and 2008 are irrelevant,

because we are assuming the household buys the same market basket of goods each month.

Calculate Expenditures on Base-Year Quantities (2006)

For the CPI we use “Current Prices” and “Constant Quantities”.P2006 x Q2006 =

(12 x $8.00) Movie Tickets(6 x $4.00) Popcorn(10 x $2.50) Soda= $145.00

Cost of the Market Basket in 2007,2008

2008:P2008 x Q2006 = (12 x $12.00) Movie

Tickets(6 x $5.50) Popcorn(10 x $3.50) Soda= $212.00

2007:P2007 x Q2006 = (12 x $10.00) Movie

Tickets(6 x $5.00) Popcorn(10 x $3.00) Soda= $180.00

To calculate the CPI we use the following formula:

100________

YearBasetheinesExpenditurYearCurrenttheinesExpenditurCPI

100__________

YearBaseinBasketofCostYearCurrentinBasketofCostCPI

Calculate the CPI for 2006

CPI2006 = (Cost of Basket2006/Cost of Basket2006) x 100

CPI2006 = (145/145) x 100 = 100

The value of the CPI is always equal to 100 in the base-year.

Calculate the CPI for 2007 and 2008

2008:CPI2008 = (Cost of

Basket2008/Cost of Basket2006) x 100

CPI2008 = (212/145) x 100 = 146.21

2007:CPI2007 = (Cost of

Basket2007/Cost of Basket2006) x 100

CPI2007 = (180/145) x 100 = 124.14

Calculating the Inflation Rate from the CPI

• To Calculate the inflation rate we use our growth rate formula.

100_

__%_

ValueOld

ValueOldValueNewChangePercent

Calculate the inflation rate from 2006 to 2007 and from 2007 to 2008Inflation06-07 = [(CPI2007 – CPI2006)/CPI2006] x 100Inflation06-07 = [(124.14 – 100)/100] x 100Inflation06-07 = 24.14%

Inflation07-08 = [(CPI2008 – CPI2007)/CPI2007] x 100Inflation07-08 = [(146.21 – 124.14)/124.14] x 100Inflation07-08 = 17.78%

Using Wholesale price index(WPI)

• the price of a representative basket of wholesale goods. • Now it is called producer price index(PPI)• India about 435 items were used for calculating the WPI

in base year 1993-94 while the advanced base year 2011-2012 uses 676 items.

• Calculation of inflation rate :100

___%_

ValueOldValueOldValueNewChangePercent

Using GNP deflator

• GNP Deflator is the ratio of Nominal GNP in a year to the real GNP Of that year

• GNP Deflator=Nominal GNP/Real GNP• Gross national product (GNP) is a broad measure of a

nation's total economic activity. GNP is the value of all finished goods and services produced in a country in one year by its

In 1999-2000Nominal GNP = Rs.1740.2 thousand crores Real GNP (1993-94) = Rs.1136.9 thousand crores GNP deflator(1999-2000)in % =1740.2/1136.9 X 100=153%

Nominal GNP in 2000-2001 = Rs.1819.04 thousand crores GNP deflator(2000-2001)in % =1819.04/1136.9 X 100=160%

% change in GNP deflator is rate of inflationThus, Rate of inflation = 160-153/153 X 100=4.6%

Thank you