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Economics > Inflation > Flashcards

Inflation Flashcards

1
Q

Define Inflation.

A

Inflation is the sustained rise in the general price level in the economy and a fall in purchasing power of money over a period of time.
or,
It refers to rise in average price level of most of goods and services in the economy.

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2
Q

What is Demand Pull Inflation?

A

This type of inflation is caused by increase in demand and when demand outgrows the supply in the economy.
“TOO MUCH MONEY, CHASING TOO FEW GOODS”

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3
Q

What are the reasons for Demand Pull Inflation?

A
  1. Increase in government expenditure
  2. Rising Population
  3. Black Money
  4. Changing Consumption Patterns
  5. Increased Wages
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4
Q

What is Cost Push Inflation?

A

It is also known as Supply Shock Inflation.
It occurs due to reduced supplies because of increased prices of inputs.

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5
Q

What are the reasons for Supply Shock Inflation?

A
  1. Increase in cost of Factors of Production
    a). Rise in wages (At times, rise in wages if greater than rise in productivity, increases the costs therefore increasing the prices too)
    b). Poor Quality of workforce
    c). Rise in cost of capital
  2. Increase in Indirect Taxes
  3. Infrastructural Bottlenecks
  4. Fluctuation due to seasonal and cyclical reasons
  5. Lower availability of raw materials
  6. Poor Business environment (Eg: High cost of compliance with laws)
  7. Vulnerability to disasters
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6
Q

What is Structural Inflation?

A

It is also known as Bottleneck Inflation.
This inflation is built in the economics due to government policies or faulty supply chain.
Inflation in India is largely due to structural factors.

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7
Q

What are some factors affecting both Aggregate Supply and Aggregate Demand, thus impacting Inflation?

A
  1. Legal Factors
    a). Hoarding
    b). Cartelization
  2. International Factors
    a). Geopolitical Tensions (sanctions, wars etc)
    b). Risks in countries of import
    - Political Risks
    - Labour Strikes
    - Natural Disasters
    - Robberies in sea routes etc
    c). Rise in price of international commodities such as edible oil, crude oil etc.
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8
Q

What is Cartelization?

A

A CARTEL is an organization created from a formal agreement between a group of producers of goods and services to control supply or to regulate or manipulate the prices.
Eg: Drug cartels, Cement Cartels (in India) etc

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9
Q

In what ways India deals with Cartelization?

A

Competition Commission of India

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10
Q

What do you mean by Stagflation?

A

Stagflation refers to the combination of high inflation and low growth.
It is also described as the situation of high inflation and high unemployment.

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11
Q

What is the difference between, “Deflation” and “Disinflation”?

A

A. Deflation: Completely opposite of Inflation
- It occurs when the inflation rate falls below 0% and enters in negative territory.
B. Disinflation: Slowdown in the rate of inflation
- It occurs when inflation rate is declining but remain in positive trajectory.

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12
Q

What is meant by Recession?

A

Recession is a situation characterized by negative growth rate of GDP in two successive quarters.

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13
Q

What is Depression?

A

Depression is the extreme form of Recession.
A 10% decline in GDP is generally called Depression.

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14
Q

What are some indicators of Depression in the economy?

A
  1. Huge fall in demand and consumption of goods and services
  2. Shattering of Business confidence
  3. A sharp decline in the output of the economy and investments
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15
Q

What is Inflation Spiral?

A

It is the positive feedback loop mechanism of wages and prices i.e., “Wages press prices up and prices pull wages up”. Thus, it is also known as, Wage Price Spiral

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16
Q

Why is Inflation known as self-fulfilling prophecy?

A

When people expect prices to rise, their current decision may be to buy and stock up the goods. This results in artificial scarcity and thus an increase in prices. Thus, Inflation is a self-fulfilling prophecy.

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17
Q

What is Skewflation?

A

Inflation attributed to a rise in prices of just a few goods in the headline basket i.e., a handful of goods become expensive, pulling up the rate of inflation.

18
Q

What is Core Inflation?

A

The % change in price of the headline basket after removing highly volatile goods (beyond the control of the authority)

19
Q

What does Philips Curve represent?

A

It shows the relation between Prices and Unemployment over a period of time.
There is generally an inverse relation between them.
Stagflation is an exception to this relationship.

20
Q

What is the effect of inflation on lenders and borrowers?

A

Lenders lose while Borrowers benefit from inflation.

21
Q

How Lenders shield themselves from the negative effects of inflation?

A
  1. Charge a higher Nominal Interest Rate (NIR)
  2. Charge a fixed Real Interest Rate (RIR), therefore NIR would vary depending on the rate of inflation
22
Q

What is Nominal Interest Rate and Real Interest Rate ?

A

NIR is the interest rate without adjusted for inflation.
RIR is the NIR adjusted with inflation.
RIR = NIR - Rate of Inflation

23
Q

What is the effect of inflation on consumers?

A

Consumers loses out money as money loses its purchasing power with inflation.

24
Q

How Producers are affected from Inflation?

A

Benefit of producers from inflation depend on,
1. Ability of producers to pass on the increased cost of factors of production to the consumers
2. The ability to set the prices
3. Nature of goods they are producing
Necessary goods - Inelastic Demand (more benefit)
Luxury goods - Generally less competition

25
Q

What is Fiscal Drag?

A

Fiscal Drag is a situation where inflation moves taxpayers into higher tax brackets, which reduces individual’s disposable income thus, decline in aggregate demand and ultimately stabilization of prices during economic booms.
It acts as an automatic stabilizer of prices.

26
Q

Why low and stable rate of inflation is generally considered desirable for the economy?

A

At a low rate of inflation, consumers tolerate, and producers earn decent profits.
Stability is desirable as it will give certainty facilitating the decision of buying and selling.

27
Q

What is Engle’s Law?

A

As household income increases, the proportion of income spent on food decreases, even if the absolute expenditure on food rises.

28
Q

How inflation is measured based on period?

A
  1. Annual Average Inflation Rate: It is the average of inflation rate in the last 52 weeks.
  2. Point to Point Inflation Rate: Changes in inflation rate between a particular week of the last year and the same week of the current year.
29
Q

What is headline inflation of India?

A

Consumer Price Index - Combined
(CPI - C)

30
Q

Who releases WPI?

A

Office of the Economic Advisor, Department for Promotion of Industry and Internal Trade, Ministry of Commerce and Industry

31
Q

How many groups are there in WPI?

A

3 groups namely,
1. Primary Articles
2. Fuel and Power
3. Manufactured Products

32
Q

Are indirect taxes included in calculation of WPI and why?

A

No

This is because,
1. To remove impact of fiscal policy
2. To bring it conceptually closer to ‘Producer Price Index’ in consonance with international practices
3. To reflect pure market dynamics rather than tax changes, to improve their accuracy
4. To provide more accurate input for monetary policy decisions
5. To identify sectoral price pressures and targeting support policies effectively
6. To better reflects the cost dynamics at the production level, helping policymakers and businesses understand real producer price movements

33
Q

What is Producer Price Index (PPI)?

A

It measures the prices producers receive for their goods and services at the factory gate (before retail markups and taxes).

34
Q

What are limitations of WPI?

A
  1. It does not include services such as health, education, transportation, finances etc.
  2. It does not account for the products of the unorganized sector.
  3. It reflects price movement at wholesale level, thereby not reflecting the retail prices at which price goods are bought by final consumers.
  4. Insufficient or Delayed data availability leads to gaps and inconsistencies in compilation of WPI
35
Q

Which index is used by RBI for inflation targeting?

A

CPI (as recommended by the Urjit Patel Committee)

36
Q

Which index is used by Pay Commission to recommend pay revisions i.e., Dearness Allowance (DA)?

A

Consumer Price Index - Industrial Workers
[CPI (IW)]

37
Q

Who fixes the Benchmark policy rate (Repo Rate) in India?

A

Monetary Policy Committee (MPC) headed by RBI Governor

38
Q

What is the structure of Monetary Policy Committee (MPC)?

A

There are 6 members in MPC: -
3 members from RBI
3 members appointed by the Central Government

39
Q

What are the advantages of MPC?

A
  1. Collective decision making
  2. Transparency in decision making (MPC publishes decisions along with reasons)
  3. Accountability: MPC is answerable to the government if it fails in achieving its pre-decided target.
40
Q

What are the arguments against MPC?

A
  1. Undermining of RBI as monetary authority
  2. Governmental Interference thus, compromise on the delicate balance between the price stability and growth
  3. Unable to control supply side inflation

Economics (5 decks)

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