types of inflation

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Good morning student now take a look at very interesting topicthat is type of inflation

Objective of Lesson• Types of inflationOn different grounds, economists have classified inflation intovarious types.A few important categories are discussed below.Chart 1 pinpoints the classification of inflation.

Chart 1 Classification or Types of Inflation

1. Moderate, Gal1oping and HyperinflationThe severity of inflation is often measured in terms of therapidity of price rise. On the basis, a quantitative distinction ofinflation may be nude into three categories, viz: Moderateinflation; Running and galloping inflation; and Hyperinflation.

a. Moderate InflationIt is a mild and tolerable form of inflation. It occurs whenprices are rising slowly When the rate of inflation is less than 10per cent annually, or it is a single digit int1ation rate, it isconsidered to be a moderate inflation in the present theeconomy.Prof. Samuelson observes that moderate inflation is typicaltoday in most industrialised countries.

LESSON 9:TYPES OF INFLATION

The following are the major characteristics of moderateinflation:i. There is a single digit inflation rate (less than 10 per cent)

annually.ii. It does not disrupt the economic balance.iii. It is regarded as stable Inflation in which the relative prices

do not get farout of line.iv. People’s expectations remain more or less stable under

moderate inflation.

v. Under a low inflation rate, the real interest rate is not toolow or negative, so money can serve its role as a store ofvalue without difficulty.

vi. There are modest inefficiencies associated with moderateinflation.

Economists have arbitrarily laid down that a 3-4 per cent pricerise per annum is a tolerable rate of inflation in moderneconomies. Even the Chakravarthi Report of the Reserve Bankof India has accepted 3-4 per cent rate of inflation annually tobe an efficient and tolerable norm for the Indian economy.Incidentally, some economists have described up to 3 per centannual rate of inflation as ‘creeping inflation’ and if it exceeds

According to the rate of inflation

1.Moderte inflation (a) Creeping (b) Walking 2.Running inflation 3.Galloping Inflation 4.Hyper Inflation

According to The nature of Time period of occurrence

1. War-time Inflation 2. Post-war Inflation 3. Peace-time Inflation

According to The scope or coverage:

1.Comprehensive inflation 2.Sporadic inflation

According to the Government’s Reaction:

1.Open inflation 2.Repressed inflation

According to the causes:

1.Credit-inflation 2.Deficit inflation 3.Scarcity inflation 4.Profit-inflation 5.Foreign trade inflation 6.Tax-inflation 7.Cost or wage inflation 8.Demand inflation

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10 per cent, it is called ‘walking inflation.’ This means,Samuelson has clubbed ‘creeping’ and ‘walking’ inflation into‘moderate’ inflation.Samuelson’s opinion, moderate inflation is not a seriousproblem. While some economists feel that even a walkinginflation should make us more cautious, as it represents awarning signal for the occurrence of running or double digitand eventually a galloping inflation, if it is not checked in time.

Running and Galloping InflationWhen the movement of price accelerates rapidly, runninginflation emerges. Running inflation may record more than 100per cent rise in prices over a decade. Thus, when prices rise bymore than 10 per cent a year, running inflation occurs.Economists have not described the range of running inflation.But, we may saythat a double digit inflation of 10-20 per centper annum is a running inflation. If it exceeds that figure, itmay be called ‘galloping’ inflation.According to Samuelson, when prices are rising at double ortriple digit rates of 20, 100 or 200 per cent a year, the situation isdescribed as ‘galloping’ inflation.Indian economy has witnessed a sort of ‘running’ and ‘gallop-ing’ inflation to some extent (not exceeding 25 per cent perannum) during the planning era, since the Second Plan period.Argentina, Brazil and Israel, for instance, have experiencedinflation rates over 100 per cent in the eighties.Galloping inflation is really a serious problem. It causeseconomic distortions and disturbances.

HyperinflationIn the case of hyperinflation, prices rise every movement, andthere is no limit to the height to which prices might rise.Therefore, it is difficult to measure its magnitude, as prices ris~by fits and starts. .In quantitative terms, when prices rise over 1000 per cent in ayear, it is called a hyperinflation.Austria, Hungary, Germany, Poland and Russia witnessedhyperinflation in the wake of World War I.Hyperinflation notably took place in Germany in 1920-1923.The German price index rose from 1 to 10,00,000,000 duringJanuary 1922 to November 1923. Believe it or not, it is a fact!

The Main Features of Hyperinflation are

i. During hyperinflation, the price rise is severe. The priceindex moves up by leaps and bounds. It is over 1000 percent per year. There is at least a 50 per cent price rise in amonth, so that in a year it rises to about 130 times.

ii. It represents the most pathetic deterioration in people’spurchasing power.

iii. It is apparently generated by a massive fiscal dislocation.iv. It is amplified by wage-price spiral.v. Hyperinflation is a monetary disease.vi. The velocity of circulation of money increases very fast.vii. The structUre of the relative prices of goods become highly

lU1stable.viii. The real wages tend to decline fast.

ix. Inequalities increase.x. Overall economic distortions take place.These speed categories of inflation are graphically depicted as inFigure 2 where t represents time variable and p denotes increasesin the price level.It must be remembered that the difference between all thesefour types of inflation is one of degree than of kind. They arespecies of the same genus.

War, Post-War and Peace-Time InflationOn the basis of the nature of time-period of occurrence, wehave:• war-time inflation;• post-war inflation; and• peace-time inflation.

a. War-Time InflationIt is the outcome of certain exigencies of war, on account ofincreased government expenditure on defence which is of anunproductive nature. By such public expenditUre, the govern-ment apportions a substantial production of goods andservices out of total availability for war which causes a down-ward shift in the supply; as a result, an inflationary gap maydevelop.

b. Post-war InflationIt is a legacy of war. In the immediate post-war period, it isusually experienced. This may happen when the disposableincome of the community increases, when war-time taxation iswithdrawn, or public debt is repaid in the post-war period.

c. Peace-time InflationBy this is meant the rise in prices during the normal period ofpeace. Peacetime inflation is often a result of increased govern-ment outlays on capital projects having a long gestation period;so a gap between money income and real wage goods develops.In a planning era, thus, when government’s expenditureincreases, prices may rIse.

Comprehensive and Sporadic Inflation

• From the coverage or scope point of view, we have:• comprehensive or economy-wide inflation, and• sporadic inflation.

a. Comprehensive InflationWhen prices of every commodity throughout the economy rise,it is called economy-wide or comprehensive inflation. It is anormal inflationary phenomenon and refers to a rise in thegeneral price level

b. Sporadic InflationThis is a kind of sectional inflation. It consists of cases in whichthe averages of a group of prices rise because of increases inindividual prices due to abnormal shortage of specific goods.When the supply of some goods become inelastic, at leasttemporarily, due to physical or structural constraints, sporadicinflation has its sway. For instance, during drought conditionswhen there is a failure of crops, foodgrain prices shoot up.Sporadic inflation is a situation in which direct price control, ifskilfully used, is most likely to be beneficial to the community atlarge.


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Open and Repressed InflationAn inflation is open or repressed according to the government’sreaction to the prevalence of inflationary forces in the economy.

a. Open InflationWhen the government does not attempt to prevent a price rise,inflation is said to be open. Thus, inflation is open when pricesrise without any interruption. In open inflation, the free marketmechanism is permitted to fulfil its historic function ofrationing the short supply of goods and distribute themaccording to consumer’s ability to pay. Therefore, the essentialcharacteristics of an open inflation lie in the operation of theprice mechanism as the sole distributing agent. The post-warhyperinflation during the twenties in Germany is a livingexample of open inflation.

b. Repressed InflationWhen the government interrupts a price rise, there is a repressedor suppressed’inflation. Thus, suppressed inflation refers tothose conditions in which price increases are prevented at thepresent time through an adoption of certain measures like pricecontrols and rationing by the government, but they rise on theremoval of such controls and rationing. The essential character-istic of repressed inflation, in contrast to open inflation, is thatthe former seeks to prevent distribution through price riseunder free market mechanism and substitutes instead adistribution system based on controls. Thus, the administra-tion of controls is an important feature of suppressedinflation.However, many economists like Milton Frie,dman andG.N.Halm opine that if there has to be any inflation, it is betteropen than suppressed. Suppressed inflation is condemned as itbreeds auumber of evils like black market, hierarchy of pricecontrollers and rationing officers, and uneconomic diversion ofproductive resources from essential industries to non-essentialor less essential goods industries since there is a free pricemovement in the latter and hence are more profitable toinvestors.

5. Types of Inflation Based on the Causes InducingInflationAccording to the cause of rising prices, one can consider severaltypes of inflation as follows:

a. Credit InflationInflation which is caused by excessive expansion of bank creditor money supply is referred to as credit or money inflation.

b. Deficit InflationIt is the inflation caused by deficit financing.When the government budgets contain heavy deficit financing,through creating new money, the purchasing power in thecommunity increases and prices rise.This may be referred as toas deficit-induced inflation. During a planning era, whengovernment launches upon heavy investment, it usually resortsto deficit financing, when adequate resources are not found. Aninflationary spiral develops due to deficit financing, whenadequate resources are not found. An inflationary spiraldevelops due to deficit financing, when the production ofconsumption goods fails to keep . pace with the increasedmoney expenditure.

c. Scarcity InflationWhenever scarcity of real goods occurs or may be artificiallycreated by the hoarding activities of unscrupulous traders andspeculators which may result into black-marketing, therebycausing prices to go up, such type of inflation may be describedas scarcity inflation.

d. Profit InflationIn his recent book, Growthless Inflation by Means of StocklessMoney, Prof. Brahmananda menti°!ls profit inflation a;, aunique category of inflation. The concept of profit inflation wasoriginated by Keynes in his Treatise on Money. According toKeynes, the price level of consumption goods is a function ofthe investment exceeding savings. He considered the invest-ment boom as a reflection of profit boom. Inflation is unjustin its distribution effect. It redistributes income in favour ofprofiteers and against the wage-earning class. During inflation,thus, the entrepreneur class may tend to expect an upwardshifting of the marginal effiCiency of capital (MEC); hence,entrepreneurs are induced to invest more even by borrowing athigher interest rates. Eventually, investment exceeds savings andeconomy tends to reach a higher level of money incomeequilibrium. If economy is operating at full employment levelor if there are bottlenecks of market imperfections, real outputwill not rise proportionately, so the imbalance between moneyincome a.nd real income is corrected through rising prices.

e. Foreign-Trade Induced InflationFor an international economy, we may categorise the followingtwo types of inflation as being caused by factors pertaining tothe balance of payments.:i. Export-Boom Inflation; andii. Import Price-hike Inflation.

i. Export-Boom InflationWhen a country having a sizeable export component in itsforeign trade experiences a sudden rise in the demand for itsexportables against the inelastic supply of exportables in thedomestic market, it obviously implies an excessive pressure ofdemand which is revealed in terms of persistent inflation athome.Again, trade gains and sudden influx of exchange remittancesmay lead to an increase in monetary liabilities which is furtherreflected in the rising pressure of demand for domestic outputcausing an inflationary spiral to get further momentum. Such apermanent case for an export-boom inflation is, however, ruledout in the Indian economy, because neither export trade is asignificant portion of Domestic National Product nor is there acontinuous boom of export-demand, causing tenus of trade tomove up favourably all the time.

ii. Import Price-hike InflationWhen prices of import components rise due to inflationabroad, the domestic costs and prices of goods using theseimported parts vill tend to rise. Such an int1ation is referred toas imported intluion. For instance, hike in oil prices by the Arabcountries was responsible for accelerating. inflationary price risein many oil-importing countries, including India to someextent.


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j. Tax InflationYear to year increase in commodity taxation such as excise dutiesand sales tax may lead to rise in prices of taxed goods. Such aninflation is termed as tax inflation or tax-induced inflation.

g. Cost InflationWhen inflation emerges on account of a rise in cost factor, it iscalled cost inflation. It occurs when money incomes (wage rate,particularly) expand more than real productivity. Cost inflationhas its course through the level of money costs of the factorsof production and in particular through the level of wage rates.Due to a rising cost of living index, workers demand higtKl’wages, and higher wages in their turn increase the cost ofproduction, which a producer generally meets by raising prices.This process of spiralling may each higher and higher levels. Inthis case, however, cyclical anti-inflation remedies of monetarycontrols are not relative effective.Wage inflation is an important variant of cost inflation. Wagepush inflation occurs when money wages are raised withoutcorresponding improvement in the productivity of the workers.

h. Demand InflationWhen there is an excess of aggregate, detrland against theavailable aggregate supply of goods and services, prices tend torise. It is called demand-induced inflation. Population-growth,rising money income, etc. forces playa significant role ingenerating demand inflation.

Types of inflation

Demand-Pull vs. Cost-Push InflationBroadly speaking, there are two schools of thought regardingthe possible causes of inflation. One school views the demand-pull element as an important cause of inflation, while the othergroup of economists holds that inflation is mainly caused bythe cost-push element.

Demand-Pull InflationAccording to the demand-pull theory, prices rise in response toan excess of aggregate demand over existing supply of goodsand services. The demand-pull theorists point out that inflation(demand-pull) might be caused, in the first place, by an increasein the quantity of money, when the economy is operating atfullemployment level. As the quantity of money increases, therate of interest will fall and, consequently, investment willincrease. This increased investment expenditure will soonincrease the income of the various factors of production.As aresult, aggregate consumption expenditure will increase leadingto an effective increase in the effective demand. With theeconomy already operating at the level of full employment, thiswill immediately raise prices, and inflationary forces may emerge.Thus, when the general monetary demand rises faster than thegeneral supply, itpulls up prices (commodity prices as well asfactor prices, in general). Demand-pull inflation, therefore,m:anifests itself when there is active cooperation, or passivecollusion, or a failure to take counteracting measures bymonetary authorities.Demand-pull or just demand inflation may be defined as asituation where the total monetary demand persistently exceedstotal supply of real goods and services at current prices, so that

prices are pulled upwards by the continuous upward shift ofthe aggregate demand function. By using the aggregate demandand supply curves, in Fig. 4, the demand-pull process can begraphically illustrated.

In Fig. 4, the X-axis measures real output, and the Y-axismeasures the price level. Curves D, Dl and D2 represent theaggregate demand curves. The SS curve represents the aggregatesupply function, which slopes upward from left to right and, atpoint F it becomes a vertical straight line. The point F suggeststhat the economy has reached a level of full employment.Hence, the real output tends to be fixed or inelastic at thispoint. Assuming that the D curve intersects the S curve at pointF, the real output or income is at full employment and the pricelevel is OP. When there is an increase in the aggregate demandfunction beyond D, either due to an increase in autonomousinvestment (I), or because of an increase in the propensity toconsume (C), or government spending increase in the propen-sity to consume (C), or government spending (G), representedby a shift in the aggregate demand curve, such asD l’ D 2' thesupply of total real output being inelastic, the prlce level tendsto rise from P to PI and then to P2.However, demand-pull inflation can also occur without anincrease in the money supply. This can happen when either themarginal efficiency of capital increases or the marginal propen-sity to consume rises, so that investment expenditures may rise,thereby leading to rise in the aggregate demand which will exertits influence in raising prices beyond the level of full employ-ment already attained in the economy.According to the demand-pull theorists, during the process ofdemand inflation, rise in wages accompanies or follows the pricerise as a natural consequence. Under the condition of risingprices, when the rate of profit is increasing, producers areinclined in general to increase investment and .employment, inthat they bid against each other for labour, so that labour-prices(i.e. wages) may rise.In short, the inflationary process, described by the demandinflation theory, implies the following sequences:, Increasingdemand increasing prices - increasing costs - increasing income -increasing demand - increasing prices - and so on.


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Causes of Demand-Pull InflationIt should be noted that the concept of demand-pull inflation isassociated with a situation of full employment where increase inaggregate demand cannot be met by a corresponding expansionin the supply of real output. There can be many reasons forsuch excess monetary demand:1. Increase in Public Expenditure. There may be an increase in

the public expenditure (G) in excess of public revenue. Thismight have been made possible (or rendered necessary)through public borrowings from banks or through deficitfinancing, which implies an increase in the money supply.

2. Increase in Investment. There may be an increase in theautonomous investment (iI in firms, which is in excess ofthe current savings in the economy. Hence, the flow of totalexpenditure tends to rise, causing an excess monetarydemand, leading to an upward pressure on prices.

3. Increase in MPC. There may be an increase in the marginalpropensity to consume (MPC), causing an excess monetarydemand. This could be due to the operation ofdemonstration effect and such other reasons.

4. Increasing Exports and Surplus Balance of Payments. In anopen economy, an increasing surplus in the balance ofpayments also leads to an excess demand. Increasingexports also have an inflationary impact because there isgeneration of money income in the home economy due toexport earnings but, simultaneously, there is reduction inthe domestic supply of goods because products areexported. If an export surplus is not balanced by increasedsavings, or through taxation, domestic spending will be inexcess of the value of domestic output, marketed at currentprices.

5. Diversification of Goods. A diversion of resources fromthe consumption goods sector either to the capital goodsector or the military sector (for producing war goods) willlead to an inflationary pressure because while the generationof income and expenditure continues, the current flow ofreal—output decreases on account of high gestation periodinvolved in these sectors. Again, the ppportunity cost ofwar goods is quite high in terms of consumption goodsmeant for the civilian sector. This leads to an excessivemonetary demand for the goods and services against theirreal supply, causing the prices to move up.

In short, it is said that the demand-pull inflation could beaverted through deflationary measures adopted by the monetaryand fiscal authorities. Thus, passive policies are responsible fordemand-pull inflation.

Cost-Push InflationA group of economists hold the opposite view that the processof inflation is initiated not by an excess of general demand butby an increase in costs, as factors of production try to increasetheir share of the total product by raising their prices. Thus, ithas been viewed that a rise in prices is initiated by growing factorcosts. Therefore, such a price rise is termed as “cost-push”inflation as prices are being pushed up by the rising factor costs.Cost-push inflation, or cost inflation, as it is sometimes called,is induced by the wage-inflation process. It is believed that

wages constitute nearly seventy per cent of the total cost ofproduction. This is specially true for a country like India, wherelabour intensive techniques are commonly used. Thus, a rise inwages leads to a rise in the total cost of production and aconsequent rise in the price level, because fundamentally, pricesare based on costs. It has been said that a rise in wages causing arise in prices may, in turn, generate an inflationary spiral becausean increase would motivate the workers to demand higherwages. Indeed, any autonomous increase in costs, such .1S a risein the prices of imported components or an increase in indirect

taxes (excise duties, etc.), may initiate a cost-push inflation.Basically, however, it is wage-push pressures which tend toaccelerate the rising price spiral.The phenomenon of cost-push inflation is graphically illus-trated in Fig. 5. In the figure, the 0 curves represent theaggregate demand function, and the S curves, the aggregatesupply function. The full-employment level of income is OY,which can be maintained only at rising price levels, P, PI, P2' P3.Now, if we begin with price level P, F is the point of intersec-tion of the aggregate supply curve; D and SSo’ Let us assumethat the aggregate supply function shifts upward as Sl’ whichbecomes a vertical straight line at point A, and merges with theSF line (the previous supply curve at full-employment level).The upward shift in the supply curve may be attributed toeither an increase in money wages due to trade unions’ success-ful collective bargaining, or to the profit-motivatedmonopolists or oligopolists, who might have raised the pricesof goods. Anyway, as the aggregate supply curve shifts to S}’the new equilibrium point A is determined at OY} level of realoutput, which is less than full-employment level, atP } level ofprices. This means that with a rise in the price level, unemploy-ment increases’. It is regarded as the cost of holding the pricelevel close to f. Similarly, a further shift in the aggregate supplycurve to S2 on account of a further wage-push, implies a newequilibrium pointB. This causes theinc-ome level’to fall furtherto Y2,and prices to rise to P2. If, however, the government ormonetary authority is committed to maintain, full employ-ment, there will ~ more public spending or more credit


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expansion, causing the price level to rise to much more - such asfrom P to P 3 and P4. In this case, the sequence of equilibriumpoints become A-B-G-H.Cost-push inflation may occur either due to wage-push orprofit-push. Costpush analysis assumes monopoly elementseither in the labour market or in the product market. Whenthere are monopolistic labour organisations, prices may rise dueto wage-push. And, when there are monopolies in the productmarket, the monopolists may be induced to raise the prices. inorder to fetch high profits. Then, there is profit-push in raisingthe prices.However, the cost-push hypothesis rarely considers autono-mous attempts to increase profits as an important inflationaryelement. Firstly, because profits are generally a small fraction ofthe total price, a rise in profits would have only a slight impacton prices. Secondly, the monopolists generally hesitate to raiseprices in absence of obvious demand-pull elements. Finally, themotivation for profit-push is weak since, at least in corpora-tions, those who make the decision to raise prices are not thedirect beneficiaries of the price increase.Hence cost-push is generally conceived as a synonymous withwage-push. When wages are pushed up, cost of productionincreases to a considerable extent so that prices may rise. Sincewages are pushed up by the demand for high wages by thelabour unions, wage-push may be .equated with union-push.According to one variant of the cost-push theory, sectoral shiftsin demand are prime-movers in the inflationary process.Starting with an autonomous shift in demand, a rise in wagesand prices could result in one sector and this rise could elicitfurther shifts of demand. This happens because thete is a closelink between different goods through inputs. One good servesas an input in the production of the other goods, and conse-quently, when the price of the input rises, the prices of outputwill also rise. For instance, when due to a rise in wages in thesteel industry, price of steel may rise, and this will raise the pricesof vehicles, machines, etc., using. steel as input. The rise in theprices of vehicles may in turn raise the cost of transport andmanufactured goods. Similarly, prices of tractors, etc. mayincrease due to high prices of steel so that costs of agriculturemay rise, hence food and raw material prices will also rise. Allthese ultimately raise the cost of living, leading to increase inwage rates. Thus, inflation once sets in motion due to thephenomenon of costpush in one industry or sector spreadsthroughout the economy.

Concluding RemarksIt is, however, impossible to state whether demand-pull orcost-push elements are the prime causes of an inflationaryspiral. It rather seems that there may be a demand-cum-costinflation as both entrepreneurs and workers use. the mark-uptheir wages to protect their share of total produt. On the otherhand, if wages rise, entrepreneurs will raise prices to adjustmark-up to the previous level of profits. Thus, demand-pullinflation may generate cost-push elements of inflation (as‘Yorkers’ will demand high wages in view of rising cost ofliving index), and the costpush inflation may in turn generatedemand-pull inflationary elements (as workers monetarydemand for consumption goods will increase due to high

wages - incomes). Normally, thus, it is difficult to be precise asto whether an inflation is cost-push or demand-pull.A cost-push inflation is much more difficult to control than ademand-pull type. A demand-pull inflation can be controlled byadopting restrictive monetary and fiscal policies so as to drainoff excessive monetary demand. But cost-push inflation is notsusceptible to a direct controls. In order to check cost-pushinflation, there is a strong need on the part of labourers andentrepreneurs for restraint in their wage and pricing policies.

RecapDemand-PullThe inflation resulting from an increase in aggregate demand iscalled demand-pull inflation. Such an inflation may arise fromany individual factor that increases aggregate demand, but themain ones that generate ongoing increases in aggregate demandare• Increases in the money supply• Increases in government purchases• Increases in the price level in the rest of the world

Cost-Push Inflation• An increase in wage rates• An increase in the prices of raw materialsThese sources of a decrease in aggregate supply operate byincreasing costs, and the resulting inflation is called cost-pushinflationOther things remaining the same, the higher the cost ofproduction, the smaller is the amount produced. At a givenprice level, rising wage rates or rising prices of raw materials suchas oil lead firms to decrease the quantity of labor employed andto cut production.”

Notes -

types of inflation

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