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Chapter: 11th 12th std standard Indian Economy Economic status Higher secondary school College

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Economics : Inflation and Deflation, Types of Inflation

The terms 'inflation' and 'deflation' are not easy to define. Different economists have defined them in different ways.

Inflation and Deflation

 

The terms 'inflation' and 'deflation' are not easy to define. Different economists have defined them in different ways. Crowther has given us the most simple and useful definition of these terms. According to Crowther, 'Inflation is a state in which the value of money is falling, i.e, prices are rising'. So it is generally regarded that during a period of inflation, the price level will rise. It is also described as a situation where too much money chases too few goods resulting in an abnormal increase of price level. Shapiro has defined inflation as 'a persistent and appreciable rise in the general level of prices'. And Harry Johnson has defined it as a 'sustained rise in prices'. However, we should remember one important point. That is, there can be inflation even without a rise in the price level. This is known as 'Repressed Inflation'. Usually this happens during a war period. On account of many controls and rationing that exist during wartime, prices will be kept under check. But the moment controls are withdrawn, prices will go up. So the real test of inflation is neither an increase in the amount of money nor a rise in prices, but the appearance of abnormal profits. Whenever businessmen and producers make huge profits, it is a sign of inflation.

 

Types of Inflation

 

        Demand - Pull Inflation : It is loosely described as 'too much money chasing too few goods'. This refers to the situation where general price level rises because the demand for goods and services exceeds the supply available at the existing prices.

 

Creeping or Persistent inflation : Since the end of world War II, i.e. since 1945, there has been a tendency for prices and wages to push one another upwards. This situation has been described as creeping or persistent inflation.

 

1. Runaway or Galloping or Hyper - Inflation

 

This is a serious type of inflation. For example, it was experienced in Germany after World War I and in Hungary and China after World War II. In this situation, prices rise to a very great extent at high speed and high prices have to be paid even for cheap things. And money becomes quite worthless and new currency has to be introduced. This situation is known as galloping inflation or hyper-inflation.

 

2.  Cost - Push Inflation

 

Cost - push inflation is induced by rising costs, including wages, so that rising wages and other costs push up prices. We can also speak of wage inflation or price inflation when we mean increase in wages or prices.

 

Bottleneck Inflation : This refers to inflation that results from shortages, imbalances and rising marginal costs as full employment output is approached.

 

Profit - Push Inflation - Just as trade unions manage to push up wages, oligopolists and monopolists will raise prices more than enough to cover increase in costs with the aim of making monopoly profits.

Generally during war and in the post- war period, there will be inflation. This is so because during war, the incomes of people increase. But there will be shortage of goods and there may be rationing, control and things like that. So during the post - war years, people who have been forced to save money will spend. That is, demand for all sorts of goods will increase during that period but supply will not increase so fast as that. This leads to inflation. Inflation occurs during war because the one great aim at that time is that of winning the war. Since modern wars are so expensive, the Government has to depend upon created money to finance war. This leads to inflation. And inflation breeds inflation. It means that inflation leads to inflation. During a period of inflation, prices will be high. Since prices are high, workers will demand high wages. High wages result in high costs. High costs in turn lead to high prices. Thus it forms a vicious circle. 'Wages force up prices ; prices force up wages'. This is the inflationary spiral. 'Deficit financing' is another cause of inflation. This applies particularly to underdeveloped countries with planned economies. Inflationary trends can be noticed also during the boom period of a trade cycle.

Since inflation has many evils, every government tries to check it. Inflation has destroyed many economies. For example the inflation that took place in 1923 in Germany destroyed her economic system. Inflation can be checked by some or all of the following measures.

 

        Increased taxation (2) By reducing government expenditure on capital projects. (In India, this measure has been suggested to check inflation. Many capital projects proposed in our Third Five Year Plan were either suspended or dropped completely. (3) Restrictions on imports. (4)Rationing and (5) Price controls. Sometimes a 'wage freeze' is recommended to check inflation. That is, trade unions will be requested not to ask for an increase in wages during a given period. The success of the above measures in tackling inflation depends upon the efficiency of the government in implementing the measures.

 

Deflation : Crowther, defines deflation as a 'state in which the value of money is rising, i.e., prices are falling'. Both inflation and deflation refer to the movement of prices. Deflation is the opposite of inflation. Generally inflation is a period characterized by rising activity and employment. But during deflation, there will be bad trade and unemployment. During deflation, since prices fall faster than costs, there will be heavy losses for producers and businessmen. There will not be profits in any branch of economic activity. So there will be a fall in investment. This results in unemployment. Both inflation and deflation are evils. There is nothing much to choose between them. While rising prices can be checked to some extent by the monetary policy of the government, the latter is of little help in raising the price level during deflation. It does not work. That is why during such periods, modern economists suggest that the State must play an active role in the economic field and step up economic activity by undertaking a series of public works programmes. 'Wage-cut' is sometimes recommended as a remedy for depression. But it is not a correct solution. It will only make matters worse.

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