Living with Inflation

Everyday we hear and experience rising prices or inflation. Inflation measures the rate at which prices rise. Due to inflation, we end up with lower bank balances at the end of each month. What you could buy for Rs 100, a few years ago, costs you nearly double now. In other words, it also means the worth of a rupee has reduced.

Let me familiarize you with the three broad degrees of inflation - Hyperinflation, inflation and deflation.

You can recollect, last year, beginning of June, the rates of onions had shot overnight to around 25 to 30 rupees. Of course they stayed there for few days and came back to normal. Imagine something like that happening on a continuous basis. i.e. prices shoot from 10 to 20, next day they touch 40, after another day 80 and so on. Now imagine this happening for not only onions, but for potatoes, other vegetables, sugar, fuel and just about everything that you need and just continues without any sign of reversal. You are experiencing Hyperinflation - inflation gone out of control.

Flashback.. 1923 .. Germany! Picture a lady, keeping herself warm by the fireplace. What do we use to keep the fire burning? This lady was using neat bundles of currency notes. Why? Because the notes would burn longer than the firewood she can purchase with the same notes. Currency really becomes worthless. The government prints larger denominations of currency.

Hyperinflation is not like dinosaurs that have disappeared from this earth. One can go to Zimbabwe today and live through it. In 1980, one Zimbabwe Dollar equaled 1.5 US Dollars. In January this year, the government issued new notes of 10 million Zimbabwe dollars. Each note valued at 4 US Dollars. Just after 3 months, in April the government issued new notes of 50 million Zimbabwe Dollars. Each valued at 1.2 USD i.e. about 50 rupees. The government figures quote the inflation rate at 165000%. In reality it could be double.

Well, no one likes rising prices. We are happy when prices are reduced, when we get good discounts. What if prices keep falling? You think you will love it? Say, you want to buy a car and you expect prices to keep falling. Will you buy the car or will you wait till the rates of the car drop further? You will wait. Just like you don’t want to buy a car, you don’t want to spend on other things as well. Everyone feels the same. No one buys.

If you are on the manufacturing or selling side and no one buys, what do you do? Cut the price. Cut costs. Sack employees. Now people’s incomes reduce and they become more reluctant to buy. Here we have a deflationary situation. You have prices falling and you wait for them to fall further, leading to a deflationary spiral. Prices go into a freefall. This is what has happened in Japan in the last decade. They just couldn’t figure out how to make people spend. They had zero interest rates till 2006.

We have seen the extremes of inflation, hyperinflation and deflation and obviously do not like both. Simple inflation is what we have been experiencing in India. Should we not have any inflation? Actually, we do not need high inflation. But, we actually need a little inflation. Low inflation keeps the economy active as the prices of goods keep changing. In the short term, it encourages spending and borrowing and also encourages long term investments.

At the moment the inflation in India at 7% makes us a bit uncomfortable. But, let us be optimistic and let the government take care of the inflation. There have been several initiatives taken by the government and the effect of these measures should be seen in the next few weeks. In the past we have seen higher levels of inflation.