(IGP) GS Paper 1 – Economic & Social Development – “Inflation – Concepts, Facts & Policy”

Integrated Guidance Programme of
General Studies for IAS (Pre)

Subject – Economic and Social
Chapter – Inflation – Concepts, Facts & Policy


  • Inflation means a persistent rise in the price of goods and services.
    Inflation reduces the purchasing power of money. It hurts the poor more as a
    greater proportion of their incomes are needed to pay for their consumption.
    Inflation reduces savings; pushes up interest rates; dampens investment;
    leads to depreciation of currency thus making imports costlier.

Depending upon the rate of growth of prices,
inflation can be of the following types:

Creeping inflation

  • Creeping inflation is a rate of general price increase of I to 5 percent
    a year. Creeping inflation of 3 to 5 percent erodes the purchasing power of
    money when continued over many years, but it is “manageable.” Furthermore, a
    low creeping inflation could be good for the economy as producers and
    traders make reasonable profits encouraging them to invest.

Trotting inflation

  • Trotting inflation is usually defined as a 5 to 10 percent annual rate
    of increase in the general level of prices that, if not controlled, might
    accelerate into a galloping inflation of 10 to 20 percent a year.


  • Hyperinflation is inflation that is “out of control,” a condition in
    which prices increase rapidly as a currency loses its value.
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Measures of Inflation:

GDP deflator

  • GDP stands for gross domestic product, the total value of all final
    goods and services produced within that economy during a specified period.
  • GDP deflator is a measure of the change in prices of all new,
    domestically produced, final goods and services in an economy.
  • The GDP deflator is not based on a fixed market basket of goods and
    services but applies to all goods and services domestically produced.

Cost of living index

  • The cost of living is the cost of maintaining a certain standard of
    living. It is defined with reference to a basket of goods and services. When
    their cost goes up, CoL is said to be dearer and the index will go up. It
    has a value of 100 in the base year. An index value of 105 indicates that
    the cost of living is five percent higher than in the base year.


  • Producer price index (PPIs) measures the change in the prices received
    by a producer. The difference with the WPI is accounted for by logistics,
    profits and taxes, mainly, Producer price inflation measures the price
    pressure due to increase in the costs of raw materials. It may be absorbed
    by them or made up by increases in productivity or passed on to the
    consumers. It depends on the market conditions.


  • Wholesale price indices, which measure the change in price of a
    selection of goods at wholesale, prior to retail sales thus excluding sales
    taxes. These are very similar to the Producer Price Indexes.


  • Consumer price index measures the changes in prices paid by the consumer
    at the retail level. It can be for the whole community or group-specific for
    example, CPI for industrial workers etc as in India.

Types of Inflation

  • Demand- pull inflation: inflation caused by increases in demand
    due to increased private and government spending, etc. It involves inflation
    rising as real gross domestic product rises and unemployment falls. This is
    commonly described as ‘too much money chasing too few goods’.
  • Cost- push inflation: It is also referred to as “supply shock
    inflation,” caused by reduced supplies due to increased prices of inputs,
    for example, crude prices globally have gone up causing supply constraints
    which means higher costs of production and so higher prices.
  • Structural inflation: A type of persistent inflation caused by
    deficiencies in certain conditions in the economy such as a backward
    agricultural sector that is unable to respond to people’s increased demand
    for food, inefficient distribution and storage facilities leading to
    artificial shortages of goods, and production of some goods controlled by
    some people.

To Control Inflation

  • There are fiscal, monetary, supply-side and administrative measures to
    control inflation to ideal/optimal rates though zero rate of inflation is
    never preferred for the reasons cited elsewhere in the lesson.
  • Fiscal measures include reduction in indirect taxes
  • Dual pricing like in sugar.
  • Monetary measures include rate and reserve requirements changes.
    Open market operations can stabilize prices under normal conditions
    Also, sterilization through Government bond transactions as in the case
    of MSBs.
  • Supply side factors include making goods available- import of wheat
    in India.
  • Administrative measures include implementation of dehoarding and
    anti-black-marketing measures. Wage and price controls can also be used

Inflation Targeting:

  • Inflation targeting focuses mainly on achieving price stability as the
    ultimate objective of monetary policy. This approach entails the
    announcement of an inflation target- either a number or a range, that the
    central bank promises to achieve over a given time period. The targeted
    inflation rate will be set jointly by the RBI and the government, although
    the responsibility of achieving the target would rest primarily on the RBI.
    This would reflect an active government participation in achieving the goal
    of price stability with fiscal discipline by way of a rational borrowing
    programme (not borrowing in excess).


  • Deflation is a prolonged and widespread decline in prices that causes
    consumers and businesses to curb spending as they wait for prices to fall
    further. It is the opposite of inflation, when prices rise, and should not
    be confused with disinflation, which merely describes a slowdown in the rate
    of inflation.
  • Deflation occurs when an economy’s annual headline inflation indicator
    — typically the consumer price index — enters negative territory:
  • Deflation is hard to deal with because it is self-reinforcing. Put
    simply, unless it is stopped early, deflation can breed deflation, leading
    to what is known as a deflationary spiral.


  • Tax cuts to boost demand from consumers and businesses
  • Lowering central bank interest rates to encourage economic activity
  • Printing more currency to boost money supply
  • Capital injections into the banking system
  • Increase government spending on projects that boost the return on
    private investment

Government’s Steps to Control Inflation

  • The Government has taken a number of short term and medium term measures
    to improve domestic availability of essential commodities and moderate
  • It has procured record food grains. Even after keeping the minimum
    buffer stock, there are enough food grains to intervene in the market to
    keep the prices at reasonable level.
  • A Strategic Reserve of 5 million tonnes of wheat and rice has also been
    created to offload n the open market when prices are high. This is in
    addition to the buffer stock held, by FCI every year.
  • Issue price of grains supplied through PDS outlets are frozen.
  • The price situation is reviewed periodically at high-level meetings such
    as the Cabinet Committee on Prices (CCP).

New Price Index for Urban, Rural Consumers

  • The Central Statistics Office (CSO), Ministry of Statistics and
    Programme Implementation has introduced a new series of Consumer Price
    Indices (CPI) on base 2010=100 for all-India and States/UTs separately for
    rural, urban and combined with effect from January, 2011.
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