Inflation, Deflation and Stagflation

Team 6

GirishHariniLatha

MadhwarajSupriya

Contents

Inflation Causes of Inflation Effects of Inflation Deflation Causes of Deflation Effects of Deflation Measures Open Market Operation

Bank Rate Policy Cash Reserve Ratio Stagflation Causes of Stagflation Positive Effects Negative Effects Remedies Conclusion

What is Inflation?

Inflation is a rise in the general level of prices of goods and services over time. “Inflation” is used to refer to a rise in the prices of some specific set of goods or services, as in “commodities inflation”.

Causes of Inflation

Cost push inflation

Rising imported raw materials costs

Rising labour costs

Higher indirect taxes imposed by the government

Built-in inflation

Causes of Inflation

Demand Pull Inflation

A depreciation of the exchange rate.

A reduction in direct or indirect taxation.

The rapid growth of the money supply.

Rising consumer confidence and an increase in the rate of growth of house prices.

Faster economic growth in other countries.

Economic Causes

Excess printing of money.

Interest burden.

Lenient monetary policy, weak currency.

Food shortage causes high inflation.

Effects of Inflation

Effects on production.

Effects on Income distribution.

Effects on the consumption and welfare.

Affects the common man’s day to day savings.

Widens the gap between the rich and the poor.

Company's returns tend to be overstated.

Effects of Inflation

Fixed-income investors are hit hard.

Extreme imbalances of the global economy.

Creditors lose and debtors gain.

It hurts economic output in the long run.

Middle income families are most affected.

Effects of Inflation

Domestic products become less competitive.

Food price hike.

Money is converted into products.

Deflation

Deflation refers to a sustained reduction in the price levels of goods and services below zero percent based on year on year inflation.

Deflation occurs when the annual inflation rate falls below zero percent, resulting in an increase in the real value of money – a negative inflation rate.

Deflation is a condition of falling prices, accompanied by a decreasing level of output & income.

Causes of Deflation

Decrease in the money supply.

Increase in the supply of goods.

Fall in the demand for goods.

Escalation in the demand for money.

Effects of Deflation

Effect on production.

Effect on distribution.

Investment is curtailed.

Increase the level of unemployment.

Measures to Control Inflation and Deflation

Monetary policy is process by which the government with the help of central bank controls

Supply of money (adding money into the economy)

Availability of money (taking money out of circulation)

Rate of interest

Monetary policy is generally referred to as either being an expansion policy (deflation) or contraction policy (inflation)

Open Market Operation

Inflation: Central bank starts selling securities in the open market.

Deflation: Central bank starts buying the securities in the open market.

Bank Rate Policy

Inflation: Bank rate is increased.

Deflation: Bank rate is decreased.

Cash Reserve Ratio (CRR)

Inflation: Central bank increases the CRR

Deflation: Central bank decreases the CRR

Stagflation

Stagflation takes place when price rises are accompanied by a stagnant economy. During stagflation

Prices of goods rise.

Economy does not exhibit growth.

Employment dwindles.

Consumption reduces.

Causes of Stagflation

Supply Shock. (Short supply of essential commodities)

Rise in Money Supply.

Positive Effects of Stagflation

Stability of the real value of money.

Savings and Investments increase.

Installment of loans are easier to meet.

Negative Effects of Stagflation

Sustained decline in productivity and output.

Increase in Prices.

Costly to eradicate.

Companies cannot increase prices.

Interest rates.

Remedies for Stagflation

Introduce reforms for economy’s growth.

Strict monetary policy by the Central Bank.

Conclusion

Inflation is considered to be bad, deflation worse but stagflation is said to be the worst situation for an economy.

It is believed that a certain level of inflation acts as a tonic for the economy as it helps in the growth of a nation’s GDP.

E.g. A wage cut of 2% during Zero Inflation is not liked by the employees but they prefer a wage hike of 3% when the Inflation is at 5%.

Contents

Inflation Causes of Inflation Effects of Inflation Deflation Causes of Deflation Effects of Deflation Measures Open Market Operation

Bank Rate Policy Cash Reserve Ratio Stagflation Causes of Stagflation Positive Effects Negative Effects Remedies Conclusion