What is inflation rate?

India’s inflation rate is 11 plus due to fuel price hike. But it could be impacting you by a higher degree.

Giving you a hypothetical example on inflation rate and its effect on you, to explain about inflation for you to understand it better.

Flipping through TV channels for some time, she finally settled on a new business news channel. He was talking about the rate of inflation and mentioned that it was 8.1% last week and crossing the 8% level for the first time in so many years. But within one week after reaching 8 % India's inflation rate shoots to 13-year peak of 11.05 pct.

What is inflation?

“Inflation? What’s that?” she wondered.
The first thought was to Google the word and find the answer. Then she decided against it. She was already down three bottles of beer and wasn’t really in a mood to log on.

The next best thing was to call up her ‘four-o-clock’ friend and ask him. He would surely know.
“So what is inflation?” she called him and asked.

“Madam, it’s three hours after midnight. Can we do this tomorrow morning?” he asked sleepily. "No. Not tomorrow morning. I want to know right now,” she replied stubbornly.

Define Inflation.
“Ok. Don’t shout. Inflation is the rate at which price rises over a period of time. Now, can I go to sleep?”

“That’s all? I want to know more,” she said, the alcohol seemingly taking effect. “This rate is measured over a period of one year usually. So let’s say you spent Rs 500 a month on your toiletries a year ago and now pay Rs 600 for it, then the rate of inflation is 20% for that basket of goods.”

“Hmmm. But that anchor kept saying WPI has crossed 8%, over and over. What is that?”

“WPI is the acronym for wholesale price index. You see, the government needs some measure of inflation for the overall economy.

WPI is one such measure, calculated every week, by the Central Statistical Organisation. It is essentially a representation of the increase in the wholesale price of goods that constitute this index.

There are 435 items that are a part of this index. So when we say that WPI is at 11.05% what it means is that the price of this basket of 435 items has gone up by 11.05%, since the same time last year,” was the long response.

“So is this the rate of inflation that would affect me?” she asked.
“Not really. And there are several reasons for that. The first reason is that the prices used to construct WPI are wholesale prices.

The prices at the retail level increase more than the prices at the wholesale level. Therefore, to that extent, this is not a clear representation of your rate of inflation.

The WPI also contains items like electricity for railway traction, purified terephthalic acid (PTA), injection moulded plastic items, railway sleepers, cold rolled sheets, jelly filled telephone cables and others.

Now these items, as you would appreciate, have nothing to do with our everyday lives. There is another major reason why this does not represent your rate of inflation. If I may ask, what constitutes your biggest monthly expense?”

“Well, other than the beer I drink, it’s the monthly rent I pay for this flat,” she said.

“Exactly. But the rent is not a part of WPI. So in order to get a correct idea of how inflation is affecting you, you need to construct your own inflation number. Give me a minute, I will email you a table, which you need to fill up. You will get your rate of inflation.

It basically contains entries on various things you spend your money on. The amount you spent in May 2007 and the amount you spent in May 2008.

The table will tell you the increase in your expenses since the same time last year. So fill it up and send it back to me fast.”

She booted her laptop, keyed in a few numbers and mailed it back. “I see your salary has remained constant since last year-one of the perils of working for the IT industry.

Your monthly expenditure in May last year was Rs 30,000. Now it has gone up to around Rs 35,000, which means an increase of 17%. And that my dear is the rate of inflation for you and which is nearly double of the WPI,” he said.

Before she could protest, he continued, “If you wanted to maintain your savings of Rs 30,000 per month, your salary should have gone up by around 10% to around Rs 55,000.

Looks like it’s time to go looking for another job or cut down on your expenses. Start with less beer every month. And now let me sleep.” And he hung up.