The Hindu Editorial Analysis- 5th August 2024 | Current Affairs & Hindu Analysis: Daily, Weekly & Monthly - UPSC PDF Download

 Election overhang 

Why in News?

Production in India’s eight core infrastructure sectors remained largely dampened by the impact of a slowdown in state spending on public works in June, when the general election ended in the early part of the month leading to the formation of a new government at the Centre. The heatwaves that had impacted a wide range of economic activity in the country’s northern and western parts in May, extended in to June, adding to the overall slowdown in indus trial production.

What is inflation?

• Inflation is the speed at which prices of items and services go up in an economy.
• When manufacturing costs like raw materials and wages increase, prices go up, causing inflation.
• Inflation can happen when there's more demand for products and services, and people are willing to pay higher prices for them.

Causes of Inflation

• Various variables might lead to an increase in total demand.
• Some of these reasons include:
  • Fiscal Stimulus - When the government spends more money to boost the economy.
  • Population Pressure - The impact of a growing population on demand for goods and services.
  • Increase in Net Exports - When a country sells more goods and services to other nations.
  • Monetary Stimulus - Steps taken by the central bank to increase the money supply and lower interest rates.
  • Policy Decisions - Choices made by authorities that can affect overall demand levels.

Cost-Push Inflation

The main reason for cost-push inflation is the increase in production expenses.

Causes of Rising Production Costs:

• Employees receiving higher pay
• Escalation of raw material prices
• Businesses expanding profit margins
• Rise in import prices
• Higher indirect taxes
• Measuring inflation

How to measure Inflation?

• A straightforward method to gauge inflation is by comparing current prices of products and services with those of a base year.
• For example, if today we can purchase 1 liter of milk for Rs. 50, and a year ago the same amount cost Rs. 40.
• This indicates a Rs. 10 increase per liter or a decrease in purchasing power from 1 liter to 800ml in a year.
• Consequently, we can determine a 25% inflation in milk prices compared to the prior year.
• When evaluating inflation in an economy, various goods are considered across different levels.
• Inflation is typically assessed at three main stages:
  • At the consumer level - Consumer Price Index (CPI)
  • At the wholesale level - Wholesale Price Index (WPI)
  • At the producers' level - Producers Price Index (PPI)

Positive Impacts

• Producers benefit from higher prices, leading to increased profits.
• Investors and entrepreneurs are motivated to invest more during inflation, resulting in higher returns.
• Increased investment leads to higher production of goods and services.

Negative Impacts

• People with fixed incomes experience a decrease in real income due to inflation.
• Rising profits for business owners and entrepreneurs contribute to income inequality.
• Inflation disrupts the planning process by increasing costs, affecting government projects.

Inflation Targeting

• Inflation Targeting is a strategy used by central banks to manage inflation rates.
• It aims to maintain price stability for long-term economic growth.
• New Zealand pioneered this approach, which has been adopted by many countries, including India.

Measures to control Inflation

• Inflation can occur mainly due to two reasons. One reason is Demand-Pull inflation, and the other is cost-push inflation on the supply side.
• When there is demand-pull inflation, the focus is on reducing demand. This can be achieved by decreasing the amount of money available or raising prices through taxation.
• In the case of cost-push inflation, the focus is on increasing supply to meet market demand and lowering prices by offering subsidies and technological know-how.
• Regardless of the type of inflation, measures to control inflation can be categorized into Monetary Measures, Fiscal Measures, and Administrative Measures.

The following are the terms associated with inflation along with their definitions:

Deflation

• Deflation is the inverse of Inflation. It is the persistent decrease in the price level. Deflation occurs when the inflation rate falls below 0%.

Recession

• A recession is a time when the economy slows down.
• Before a recession starts, people usually spend a lot less money.
• This slowdown can last for several quarters and stop the economy from growing.
• During a recession, important economic things like GDP, profits, and jobs go down a lot.

Disinflation

• Disinflation: is the reduction in the rate of inflation.
• Disinflation occurs: when the inflation rate falls below its current level but is still more than 0%.

Runaway/Hyperinflation

• When inflation rises very rapidly, it is known as runaway or hyperinflation. During this time, money loses its value, and a new form of currency might need to be introduced.

Stagflation

• Stagflation is persistently high inflation, high employment and low growth resulting in a stagnant economy.

Base Effect

• It is a term that is commonly used in the context of inflation. The base effect is a distortion in a monthly inflation figure caused by exceptionally high or low levels of inflation in the previous month. A base effect can make determining inflation levels over time challenging.

Running/Galloping inflation

• When the rate of inflation reaches double digits (>10%), it is called running/galloping inflation.

Bottleneck Inflation

• When supply reduces dramatically while demand remains constant, the rise in prices is called bottleneck inflation. Supply-side issues, dangers, or mismanagement can lead to such circumstances. Bottleneck inflation is one of the examples of demand-pull inflation.

Core Inflation

• It is the total inflation in the country (Headline Inflation) minus the inflation in the food and energy articles (volatile articles).

Phillips Curve

• The Phillips curve is a graphic representation of the inverse relationship between unemployment and inflation. According to the hypothesis, the lower the unemployment rate, the higher the rate of inflation, and vice versa.

Reflation 

• To recover from an economic downturn, the RBI aims to boost the money supply, while the government looks to provide financial support through tax reductions or subsidies.
• These measures steer the economy away from a period of falling prices towards a phase of rising prices, known as reflation, as the economy bounces back from a recession.

Inflation Tax

• The term "inflation tax" does not refer to a legal tax paid to the government; rather, it refers to the penalty for retaining currency during a period of high inflation.
• It is a form of taxation in which the government alters the money supply. When the supply of money expands, the value of existing money decreases, resulting in a form of tax on existing money holders.

Double Dip Recession

• When an economy experiences two periods of contraction mediated by a brief period of expansion, it is known as a double-dip recession.
• Double Dip Recession is also known as W-shaped recessions because the curve of gross domestic product (GDP) and other economic data on graphs resembles the letter W.

Skewflation

• Skewflation is the episodic price rise in one/small groups of commodities while prices of the remaining goods and services remain the same. Example: Price rise of onions.

GDP Deflator

• GDP Deflator is the ratio of the value of goods and services produced by an economy in a given year at current prices to the value of goods and services produced during the base year at current prices.
• The GDP deflator is used to determine how much of the growth in GDP is due to higher pricing rather than an increase in output.

Inflationary gap

• The inflationary gap is the difference between the general level of prices and the rise in the level of prices due to inflation.

Deflationary Gap

• A deflationary gap is a difference between the general level of prices and the fall in the level of prices due to deflation.

Monetary Inflation

• When inflation occurs due to the excessive money printed by the RBI it is called monetary inflation.

Open inflation

• A situation where the price level rises without any price control measures by the government is called open inflation.

Suppressed / Repressed inflation

• During war or pandemic like situations, the government imposes price controls and rationing to keep prices under check. But the moment these checks have been withdrawn the prices of the goods and services rise. This rise in prices is called repressed inflation.

Headline Inflation

• Headline inflation is the measure of total inflation within an economy. It is usually presented in the form of CPI or WPI.

Structural Inflation

• It is inflation that is a part of a particular economic system. A complete change in the economic policy would be needed to get rid of it.

Creeping inflation

• If the rate of inflation is low (up to 4%), it is called creeping inflation. It is safe and essential for job creation and economic growth.

Walking/Trotting inflation

• When the rate of inflation is moderate (4-9%), it is called walking/trotting inflation.

Misery index

• Misery Index is the Rate of inflation plus the rate of unemployment.

Conclusion

• Inflation affects different parts of the economy unevenly.
• Unexpected inflation can harm the economy by causing market instability.
• Businesses find it challenging to plan for the long term due to unpredictable inflation rates.
• Moderate inflation can be beneficial as it encourages job creation and economic growth.