You are on page 1of 10

European Regional Educational Academy of Armenia

INFLATION
Mobin Shahsavari
Course 1 (Economics and management)
PHD.Z.Haroyan
Economics History / Armenians Economy

Definition of 'Inflation'
Definition: Inflation is the percentage change in the value of
the Wholesale Price Index (WPI) on a year-on year basis. It
effectively measures the change in the prices of a basket of
goods and services in a year. In India, inflation is calculated by
taking the WPI as base.
Formula for calculating Inflation=
(WPI in month of current year-WPI in same month of previous
year)
-------------------------------------------------------------------------------------- X
100
WPI in same month of previous year

Inflation is one of the most important issues in economics.


It influences the interest rate we get on our savings and the rate we pay
on our mortgages.
Inflation also affects the level of pensions and benefits, as well as the
price of some train tickets.
Inflation is the rate of increase in prices for goods and services.
There are a number of different measures of inflation in use. The most
frequently quoted and most significant ones are the Consumer Prices
Index (CPI) and the Retail Prices Index (RPI).
Each looks at the prices of hundreds of things we commonly spend
money on, including bread, cinema tickets and pints of beer - and tracks
how these prices have changed over time.
The inflation rates are expressed as percentages. If CPI is 3%, this
means that on average, the price of products and services we buy is 3%
higher than a year earlier.

Or, in other words, we would need to spend 3% more to buy the same
things we bought 12 months ago.
RPI includes housing costs such as mortgage interest payments and
council tax, whereas CPI does not.
But that only accounts for a small part of the difference between RPI and
CPI.
The main difference is caused by the fact that, although they use much of
the same data, they calculate the inflation rate using different formulae.
The one CPI uses takes into account that when prices rise, some people
will switch to products that have gone up by less.
This results in a lower CPI reading than RPI in nearly all cases.
The method used to calculate RPI is no longer considered as best
practice so it has had its national statistic status removed, although the
Office for National Statistics (ONS) still calculates it every month.
Inflation is defined as a sustained increase in the general level of prices
for goods and services. It is measured as an annual percentage increase.
As inflation rises, every dollar you own buys a smaller percentage of a
good or service.
The value of a dollar does not stay constant when there is inflation. The
value of a dollar is observed in terms of purchasing power, which is the
real, tangible goods that money can buy. When inflation goes up, there is
a decline in the purchasing power of money. For example, if the inflation
rate is 2% annually, then theoretically a $1 pack of gum will cost $1.02 in
a year. After inflation, your dollar can't buy the same goods it could
beforehand.
There are several variations on inflation:

Deflation is when the general level of prices is falling. This is the opposite
of inflation.
Hyperinflation is unusually rapid inflation. In extreme cases, this can lead to
the breakdown of a nation's monetary system. One of the most notable
examples of hyperinflation occurred in Germany in 1923, when prices
rose 2,500% in one month!

Stagflation is the combination of high unemployment and economic


stagnation with inflation. This happened in industrialized countries during
the 1970s, when a bad economy was combined with OPEC raising oil
prices.
In recent years, most developed countries have attempted to sustain an
inflation rate of 2-3%.
Causes of Inflation
Economists wake up in the morning hoping for a chance to debate the
causes of inflation. There is no one cause that's universally agreed upon,
but at least two theories are generally accepted:
Demand-Pull Inflation - This theory can be summarized as "too much
money chasing too few goods". In other words, if demand is growing
faster than supply, prices will increase. This usually occurs in growing
economies.
Cost-Push Inflation - When companies' costs go up, they need to
increase prices to maintain their profit margins. Increased costs can
include things such as wages, taxes, or increased costs of imports.
Costs of Inflation
Almost everyone thinks inflation is evil, but it isn't necessarily so. Inflation
affects different people in different ways. It also depends on whether
inflation is anticipated or unanticipated. If the inflation rate corresponds to
what the majority of people are expecting (anticipated inflation), then we
can compensate and the cost isn't high. For example, banks can vary

their interest rates and workers can negotiate contracts that include
automatic wage hikes as the price level goes up.
Problems arise when there is unanticipated inflation: Creditors lose and
debtors gain if the lender does not anticipate inflation correctly. For those
who borrow, this is similar to getting an interest-free loan. Uncertainty
about what will happen next makes corporations and consumers less
likely to spend. This hurts economic output in the long run. People living
off a fixed-income, such as retirees, see a decline in their purchasing
power and, consequently, their standard of living.
The entire economy must absorb repricing costs ("menu costs") as price
lists, labels, menus and more have to be updated. If the inflation rate is
greater than that of other countries, domestic products become less
competitive. People like to complain about prices going up, but they often
ignore the fact that wages should be rising as well. The question
shouldn't be whether inflation is rising, but whether it's rising at a quicker
pace than your wages.
Finally, inflation is a sign that an economy is growing. In some situations,
little inflation (or even deflation) can be just as bad as high inflation. The
lack of inflation may be an indication that the economy is weakening. As
you can see, it's not so easy to label inflation as either good or bad - it
depends on the overall economy as well as your personal situation.

Read more: ) http://www.investopedia.com/university/inflation/inflation1.asp#ixzz3uVw2QLg9)

Description: Inflation occurs due to an imbalance between demand and


supply of money, changes in production and distribution cost or increase
in taxes on products. When economy experiences inflation, i.e. when the
price level of goods and services rises, the value of currency reduces.
This means now each unit of currency buys fewer goods and services. It
has its worst impact on consumers. High prices of day-to-day goods
make it difficult for consumers to afford even the basic commodities in
life. This leaves them with no choice but to ask for higher incomes.

Hence the government tries to keep inflation under control.Contrary to its


negative effects, a moderate level of inflation characterizes a good
economy. An inflation rate of 2 or 3% is beneficial for an economy as it
encourages people to buy more and borrow more, because during times
of lower inflation, the level of interest rate also remains low. Hence the
government as well as the central bank always strive to achieve a limited
level of inflation.

How is inflation calculated?


Every month the ONS collects more than 100,000 prices of goods and
services from a wide range of retailers across the country - including
online retailers.
Prices are updated every month and price collectors visit the same
retailers each time in order to monitor identical goods and make sure
they are comparing like with like .All these prices are combined using
information on average household spending patterns to produce an
overall prices index. It also takes into account how much we spend on
different items. So items are weighted - i.e. given more importance in the
inflation indexes - according to how much we spend on them. We
typically spend more on fuel than on postage stamps, for example. So a
large rise in the price of petrol and diesel would affect the overall rate of
inflation more, as it has a weight of 3.5% in the CPI. Meanwhile a rise in
the price of stamps is less likely to affect the overall index, as they have a
weighting of 0.2%.

Why is it important?
The data from the CPI and RPI rates are used in many ways by the
government and businesses, and play an important role in setting
economic policyz That's because the Bank of England uses inflation to
set interest rates. If the Bank's Monetary Policy Committee thinks CPI
inflation will be above 2% in the next two years or so, it may increase
interest rates to try to subdue it. Conversely if it thinks inflation is likely to
be below 2%, it may cut interest rates. That's why inflation is a crucial

factor in determining the rates banks charge for mortgages and the rates
they offer on savings accounts. It also has a direct impact on some
people's incomes. Anything that is described as index-linked rises in line
with inflation, usually as measured by the CPI or the RPI. State benefits
and many occupational pensions rise in line with CPI. Government indexlinked savings products and some train ticket prices rise in line with RPI.
The basic state pension is currently governed by the so-called triple-lock,
rising by the highest of CPI, average earnings or 2.5%. Some companies
use the level of inflation to set annual pay rises. In recent years however,
due to the effects of the recession, many pay settlements have fallen
behind price rises.

Inflation: Conclusion
After reading this tutorial, you should have some insight into inflation and
its effects. For starters, you now know that inflation isn't intrinsically good
or bad. Like so many things in life, the impact of inflation depends on your
personal situation.
Some points to remember: Inflation is a sustained increase in the general
level of prices for goods and services. When inflation goes up, there is a
decline in the purchasing power of money. Variations on inflation include
deflation, hyperinflation and stagflation. Two theories as to the cause of
inflation are demand-pull inflation and cost-push inflation. When there is
unanticipated inflation, creditors lose, people on a fixed-income lose,
"menu costs" go up, uncertainty reduces spending and exporters aren't
as competitive. Lack of inflation (or deflation) is not necessarily a good
thing. Inflation is measured with a price index. The two main groups of
price indexes that measure inflation are the Consumer Price Index and
the Producer Price Indexes. Interest rates are decided in the U.S. by the
Federal Reserve. Inflation plays a large role in the Fed's decisions
regarding interest rates. In the long term, stocks are good protection
against inflation. Inflation is a serious problem for fixed income investors.
It's important to understand the difference between nominal interest rates

and real interest rates .Inflation-indexed securities offer protection against


inflation but offer low returns.
The term "inflation" refers to rising prices of essentials such as wheat,
milk, meat, clothing, medical services, coffee, electricity, etc. or,
alternatively, the decline in value of money so that it takes more dollars to
buy the same goods and services. A high inflation rate is anything over
the 3% to 4% annual range, which is considered benign. But, as a new
investor, what are the specific effects of inflation?
Why should you be concerned about its spectre haunting the economy?

Inflation Begins with Money Losing Value


To understand the effects of inflation, I want you to think about a few
numbers:
A $1.00 bill in 1971 had the same purchasing power as $5.24 does
today. That is, what we call $1.00 would only buy 18 worth of goods in
1971.
A 1.00 bill in 1971 had the same purchasing power as 10.60
does today. That is, what we call 1.00 today would only buy 0.09 worth
of goods in 1971.
As you can see, the major effect of inflation is that a nation's nominal
currency loses value. That is, it takes more Dollars, or Pounds Sterling, or
Euros, or Yen, or Swiss Francs, to buy the same quantity of goods.

Inflation Transfers Money from Savers and Investors to Debtors


If you follow the implications of this, you come to realize there are two
other major effects of inflation. The effect of inflation on savers and
investors is that they lose purchasing power. Whether you've buried your
money in a coffee can in the back yard or it is sitting in the safest bank in
the world, it is becoming less valuable with the passage of time. The

effect of inflation on debtors is positive because debotrs can pay their


debts with money that is less valuable. If you owed $100,000 at 5%
interest, but inflation suddenly spiked to 20% per year, you are effectively
watching 15% of your debt get paid off each year, totally free to you. At
some point, you'd be able to get a minimum wage job at McDonald's for
$100 per hour and just obliterate your debt. The net effect of inflation is
that it serves to transfer money from savers and investors to debtors. It
punishes those who postpone their enjoyment and invested in building
roads, schools, factories, and businesses and gives their reward to those
who are in debt. It is a severe moral injustice, mostly caused by
governments printing money to cover expenses that cannot be paid out of
the general treasury revenue. Another major effect of inflation is the
damage it can do to the pocketbooks of average workers. Wages and
salaries can lag cost of living increases, making families struggle to keep
up as the price of everything form cornflakes to tuition increases faster
than the take-home pay they receive from employers.

There Are Two Major Causes of Inflation


Some inflation is caused because a country has printed too
much money or experienced financial disaster, causing its
currency to plummet. Other sources of inflation can be higher
input or transportation costs such as gas, which makes it more
expensive to ship good to retail stores, increasing costs for
consumers.

Famous examples of inflation


France - 1790s
During the revolution the government sold large numbers of
assignat bonds to pay its debts, but excessive borrowing and
food shortages drove up prices. In 196 inflation reached 1,153pc
UK - 1921 to 1933
The end of war finance and return to the gold standard in 1925
put downward pressure on prices. Prices fell in almost every
year in this period, and by 1933 they had fallen 38pc

China - 1945 to 1949


Civil war began in 1945 and military spending was high, accounting for
up to 80pc of the Nationalist government's budget. Prices, measured in
Chinese Nationalist Currency, rose by 2,372pc in the year to March 1948

Armenia Inflation Rate

1993-2015

The inflation rate in Armenia was recorded at 1.20 percent in November


of 2015. Inflation Rate in Armenia averaged 703.61 percent from 1993
until 2015, reaching an all time high of 22887.40 percent in June of 1994
and a record low of -5.52 percent in March of 1999. Inflation Rate in
Armenia is reported by the National Statistical Service of the Republic of
Armenia.

You might also like