Inflation: essence and reasons

Inflation is a process when purchasing ability of money is decreasing because of price increasing. Inflation is commonly understood as a situation of substantial and rapid general increase in the price level and consequent fall the value of money over a period of time. Inflation means persistent rise in the general level of prices. Inflation is a long term operating dynamic process. By and large, inflation is also a monetary phenomenon. It is usually characterized by an overflow of money and credit. In fact, the root cause of inflation is the expansion of money supply beyond the normal absorbing capacity of the economy. The behavior of general prices is measured through price indices. The trend of price indices reveals the course of inflation or deflation in the economy. According to price level changes inflation can be differentiated as: Steady inflation, Galloping inflation.

• Steady inflation is type of inflation when average price level changes till 10% per year. 

• Galloping inflation is type of inflation when price level changes between 20% and 200% per year.

1. Over- Expansion of Money Supply: Many a times a remarkable degree of correlation between the increase in money and rise in the price level may be observed. The Central Bank (India’s RBI) should maintain a balance between money supply and production and supply of goods and services in the economy. Money supply exceeds the availability of goods and services in the economy, it would lead to inflation.

2. Increase in Population: Increase in population leads to increased demand for goods and services. If supply of commodities are short, increased demand will lead to increase in price and inflation.

3. Expansion of Bank Credit: Rapid expansion of bank credit is also responsible for the inflationary trend in a country.

4. Deficit Financing: Deficit financing means spending more than revenue. In this case government of India accepts more amount of money from the Reserve Bank India (RBI) to spend for undertaking public projects and only the government of India can practice deficit financing in India. The high doses of deficit financing which may cause reckless spending, may also contribute to the growth of the inflationary spiral in a country.

5. High Indirect Taxes: Incidence of high commodity taxation. Prices tend to rise on account of high excise duties imposed by the Government on raw materials and essentials.

6. Black Money: It is widely condemned that black money in the hands of tax evaders and black marketers as an important source of inflation in a country. Black money encourages lavish spending, which causes excess demand and a rise in prices.

7. Poor Performance of Farm Sector: If agricultural production especially food grains production is very low, it would lead to shortage of food grains, will lead to inflation.

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