Let's learn about inflation today, or as it is called colloquially, mehengai.
If you keep cash with you, a termite called inflation will eat it away. With time, the value of that money will decrease. This visualization shows what would the purchasing power of a 100 rupee note from 1958 be with time.
In 2020, a 100 rupee note will buy the same amount of goods as 1.2 rupees could buy in 1958. In reverse, a thing that cost 100 Rupees in 1958 will cost 8,277 rupees in 2020.
If you earn 70,000 per month today, you are as wealthy as someone who earned (70000 x 1.2) / 100 or 840 rupees in 1958. The money that could buy a house in 1958 would probably today buy a good lunch in a hotel.
So what does this tell us about the economy? Is inflation a bad thing?
Inflation is a relative concept, the utility of which varies from economy to economy. It is good for some economies whereas it is bad for some.
When inflation is moderately high, people are incentivized to spend and invest because their money's value, if saved will go down. Thus, this can cause economy to boost. However, if the inflation is too high, higher than the interest rates, people will not have money to buy anything, thus this will cause fall in company profits and economy will shrink. This was the case with India for many years. Our inflation was well above 10%, we have been able to get it down to 3-4% in the recent years.
In countries like US and Japan, they have deflation, meaning prices go down. That is great isn't it? Moderate deflation means prices are low and people can buy a lot but sustained deflation means people will prefer to wait for future to buy things because prices will be hundreds of dollars lower then than today and thus people will not spend now. This causes economic recession, meaning people don't want to buy.
Inflation can also be seen as instability in the economy because when prices are volatile, it can be indicative of unstable politics, industries and global relations. For example, in this graph itself, we see volatile spikes in the 60s and 70s, the time when India went to war with China and Pakistan.
In the 60s, we faced spiky inflation as wars hit our economy – the Chinese war in 62, and then the war with Pakistan in 65. Prices of wholesale goods spiked and after India devalued it’s currency, things got slightly better, with inflation going below the zero level in 1969.
The 70s saw the great oil spike which led to extremes in inflation and the 80s were about benign inflation as rules were eased, slowly, over supply and prices.
Inflation spiked again in the 90s as India devalued and went through a payments crisis. The liberalization of the early 90s helped keep inflation low as supply pressures eased, and productivity increased.
The 2008 oil price rise saw inflation temporarily go into double digits and interest rates went all the way to 9%. The Lehman bust then took inflation down to very low numbers in 2009. As the elections removed the left from power in 2009, the subsequent recovery then took inflation back up vigorously.
In the recent past, government has beat their chest for controlling inflation. But in reply, Anand Mahindra, the chairman of Mahindra and Mahindra, tweeted "Low inflation is often a good thing. But like blood pressure, it may not always be a sign of health if it keeps falling. Moderately high inflation signals growing consumption and spurs investment."