Inflation and Its Types:

Inflation refers to the general increase in the prices of goods and services in an economy over a period of time. It reflects how the value of money falls as prices rise, making it a key issue in economics.

It is considered a macroeconomic concept because it affects the economy as a whole, influencing consumers, producers, and government policies.

Types of Inflation (Based on Causes)

Inflation can arise due to various reasons. On the basis of causes, it is generally classified into three types: Demand-Pull Inflation, Cost-Push Inflation, and Structural Inflation.

Demand-Pull Inflation

Meaning

• Demand-Pull Inflation arises when aggregate demand exceeds aggregate supply in the economy. It is often described as “too much money chasing too few goods.”

Causes

• Increase in government expenditure.
• Rising population leading to higher demand.
• Circulation of black money.
• Changing consumption patterns.
• Increase in income and wages → more demand for food and luxury goods.
• Decrease in direct taxes → more disposable income.
• Increase in exports or fall in imports.
• Depreciation of currency, making imports costly.

Example

During festive seasons in India, higher demand for gold, sweets, or electronics often pushes prices up when supply remains limited.

Cost-Push Inflation

Meaning

• Cost-Push Inflation occurs when production costs increase, leading to a reduction in aggregate supply. Producers shift the burden of higher costs to consumers in the form of increased prices.

Causes

• Rise in wages of workers.
• Increase in the cost of raw materials (e.g., crude oil).
• Increase in indirect taxes (like GST).
• Higher administered prices such as Minimum Support Price (MSP).
• Reduction in subsidies.
• Hoarding and speculative activities.

Example

A global increase in crude oil prices raises the transportation cost of goods in India, leading to a rise in overall prices of commodities.

Structural Inflation

Meaning

• Structural Inflation, also called bottleneck inflation, is caused due to structural weaknesses in the economy such as poor infrastructure or inefficient distribution systems.

Causes

• Infrastructure bottlenecks like poor roads, lack of storage, or irregular electricity supply.
• Seasonal and cyclical fluctuations (e.g., failed monsoon affecting agriculture).
• Multiple middlemen in the supply chain.
• Cartelisation practices adopted by traders.

Example

A shortage of cold storage facilities for vegetables in India often leads to high onion and tomato prices during certain months, even when production is sufficient.

Types of Inflation (Based on the Rate of Inflation):

Inflation can be classified according to the speed at which prices rise in an economy. Economists generally distinguish four types: creeping inflation, walking inflation, running inflation, and galloping or hyperinflation.

Creeping Inflation

• Creeping inflation, also called mild or moderate inflation, refers to a very slow and almost unnoticeable rise in prices spread over a long period. This form of inflation is not harmful to the economy. In fact, it is often considered beneficial, as it provides incentives for producers and investors without destabilising economic growth.
• Example: If the price of a cup of tea increases from ₹10 to ₹10.50 over a year, most people may not feel the difference. But when such small increases continue year after year, the impact becomes visible.

Walking Inflation

• Walking inflation takes place when prices rise moderately, usually between 3% and 9% annually. It is also referred to as trotting inflation. While this level of inflation can still be managed, if it continues unchecked, it may gradually build momentum and lead to a more severe rise in prices.
• Example: Suppose the price of petrol is ₹100 per litre today. After a year, it rises to ₹107. Though manageable, people will start noticing the increase and adjust their monthly budgets. If not controlled, this can slowly push the economy towards faster inflation.

Running Inflation

• Running inflation refers to a situation where prices rise rapidly, often compared to the speed of a running horse. The inflation rate generally falls within the range of 10% to 20% per annum. Running inflation is considered dangerous as it erodes the purchasing power of money significantly and poses challenges for both consumers and policymakers.
• Example: Imagine house rent in a city is ₹10,000 per month. Within a year, it rises to ₹12,000. Such a fast rise affects household budgets severely and reduces savings. Running inflation makes it harder for middle-class families to maintain their standard of living.

Galloping Inflation or Hyperinflation

• Galloping inflation, also called hyperinflation, refers to extremely high and unmanageable inflation rates. In such cases, prices may rise at the rate of 20% to 100% or even more per year, sometimes running into two or three digits. Hyperinflation destroys the value of money and can cause severe disruption in the economy. Notable historical examples include Germany in the 1920s and Zimbabwe in the 2000s.

Other Types of Inflation (On the Basis of Inducement)

Apart from demand-pull, cost-push, structural and speed-based classifications, inflation can also be explained on the basis of inducement – that is, what directly triggers or induces the rise in prices. The important types are as follows:

i) Currency Inflation

• Currency inflation arises when there is an excess supply of money in circulation, leading to a general rise in prices. As more currency chases the same amount of goods and services, purchasing power falls.
• Example: If the central bank prints large amounts of currency without a matching increase in production, it leads to currency inflation.

ii) Credit Inflation

• Credit inflation occurs when banks adopt a liberal credit policy and lend money freely. Easy loans and credit expansion increase money supply, which in turn raises demand and pushes prices upward.
• Example: Excessive housing loans can raise demand for real estate, leading to a rise in property prices.

iii) Deficit-Induced Inflation

• When the government runs a deficit budget and finances it by borrowing from the central bank, new currency is printed. This expansion of money supply causes prices to rise.
• Example: During wars or emergencies, governments often spend more than they earn, leading to deficit financing and inflation.

iv) Profit-Induced Inflation

• Profit-induced inflation takes place when firms deliberately fix higher profit margins. In order to maximize profits, they increase prices beyond actual cost levels, leading to inflationary pressures.
• Example: Pharmaceutical companies sometimes increase the prices of life-saving drugs far above their cost of production, causing profit-driven inflation.

v) Scarcity-Induced Inflation

• Scarcity inflation occurs when goods become scarce due to a fall in production or artificial hoarding. The supply shortage leads to a sharp increase in prices.
• Example: In Venezuela in 2018, hyperinflation was largely caused by the scarcity of farm goods and essential commodities, worsened by black marketing.

vi) Tax-Induced Inflation

• Tax-induced inflation, also called taxflation, arises when the government imposes or increases indirect taxes like excise duty, customs duty, or sales tax. This raises the cost of goods and services, leading to higher prices.
• Example: In India, frequent hikes in excise duty on petrol and diesel have often led to tax-induced inflation.

Monetary Policy in India The primary objective of the Reserve Bank of India’s (RBI) monetary policy is to maintain price stability while also supporting economic growth. Price stability is considered a necessary precondition for achieving sustainable development. Legal Framework In May 2016, the RBI Act, 1934 was amended to give the central bank a legislative mandate to operate India’s monetary policy framework. According to the RBI, this framework: Sets the policy repo rate based on an assessment of the evolving macroeconomic situation. Modulates liquidity conditions to align money market rates with the repo rate. Changes in the repo rate transmit through the financial system, influencing aggregate demand, which in turn determines inflation and growth. Monetary Policy Committee (MPC) Under Section 45ZB of the RBI Act, the central government is empowered to constitute a Monetary Policy Committee (MPC) to determine the policy interest rate required to achieve the inflation target. The first MPC was constituted on September 29, 2016. The decision of the MPC is binding on the RBI. Composition of MPC The MPC consists of six members: RBI Governor – ex officio Chairperson. Deputy Governor – in charge of monetary policy. One RBI officer – nominated by the Central Board. Three members nominated by the central government – experts with knowledge in economics, banking, finance, or monetary policy (as per Section 45ZC).