Question

​​​​​​2. Measures of Inflation.

Inflation can be measured using many different indicators. Your task is to collect and present data on at least 3 different measures of inflation in one country for a period of about 10 years. Please, present your data graphically and provide a brief comment on the differences (if any) in the trends of these indicators!

Answer 1

Inflation refers to a rapid increase in prices, that is measured over some broad index (such as the Consumer Price Index) over months or years. It is a situation of a sustained increase in the general price level in an economy, an increase in the cost of living as the price of goods and services rise.

There are basically four types of inflation in an economy which have been provided as follows:-

(a) Creeping Inflation

(b) Walking Inflation

(c) Galloping Inflation

(d) Hyperinflation

(a) CREEPING INFLATION- It is a kind of inflation when the prices rise by 3% a year or less.

(b) WALKING INFLATION- It is a kind of strong, or pernicious inflation between 3-10% a year. But this kind of inflation is harmful to the economy because it heats up economic growth fastly. As a result, people buy more goods than required in order to avoid higher prices in the future.

(c) GALLOPING INFLATION- It is a kind of inflation that rises up to 10% or more.

(d) HYPERINFLATION - It is a kind of inflation when prices rise above more than 50% a month. It is a very rare form of inflation.

MEASURES OF INFLATION

There are a variety of measures of inflation. Some of them are as follows:-

(i) Monetary measures

(ii) Fiscal measures, and

(iii) Other measures such as Price Control

But the best measure of Inflation is Gross Domestic Product (GDP) deflator that measures the aggregate prices of all goods and services produced by the entire nation encompassing the CPI and the PPI.

In the UK, however, there are few different measures of inflation, but the different measures of inflation give different inflation figures. While the inflation rates of CPI of 4.5% would encourage the Bank of England to raise interest rates.

Let us, for example, take the case of Brazil and determine the different measures of inflation in that country and the effect of inflation over the past 10 years. The effect of inflation and the various plans adopted to control inflation over the past 10 years in case of Brazil can be explained with the help of the following graph:-

In Brazil, there was a deep economic crisis in the country throughout the period. While the 1980s was almost considered as a "lost decade", the Brazilian economy's GDP stagnated or fell (1981:- 4.3 %, 1982: - 0.8 %, and 1983:--2.9%).

Inflation had accelerated significantly, reaching 100% per year in 1980 and rising further following the sharp exchange rate devaluation of 1983. While it had reached 224% per year in 1984. In order to control inflation, a structural reform was adopted in Brazil in the 1990s, comprising government reform, new trade and financial policy with a clear liberalizing inclination. But the fiscal adjustment proposed by the real plan was not effective, resulting in a 0.24% of GNP in 1995, 0.9% in 1996, -0.88 in 1997 and 0.01% in 1998. While some of the indicators selected for the period 1994-1998 were as follows:-

- The growth of GNP (% p.a)

- Gross Fixed Capital formation( %GNP)

- Inflation (% pa)

- Current Account Balance

- International reserves (US$ millions)

- Interest rate

- Real Exchange rate /dollar

- Primary surplus

- Liquid public sector debt (% GNP)

The Real Plan was a highly successful experiment in stabilization for the Brazilian economy. was In the period following 1994 inflation fell significantly and stayed at this level. However, this stability in prices was achieved through relatively high-interest rates and an overvalued exchange rate. With regard to the interest rate, while high-level rates served to attract outside capital and to finance the balance of payments - helping with the strategy of sustaining high exchange rates - they also increased the proportion of public debt indexed to them. But the overvalued exchange rate brought problems for the balance of payments in current account transactions as demonstrated by successive growing deficits.