If you did not attend a trade school or a business school, that doesn’t mean that common financial terminologies are alien to you. One of the most common financial terminologies known to all is inflation. Everyone who earns a pay-check has heard about it and is worried about it. What is inflation?
Inflation
Well to put it in simple terms, inflation is nothing but the decrease in the purchasing power of money. In economic literature, inflation is defined as too much money chasing too few goods, meaning there is more money in circulation than compared to the current rate of supply and production.
What is bank rate and its relation with inflation
Bank rate is the rate of interest charged by the RBI while lending money to commercial banks. The current bank rate set by RBI is 6.5%. Commercial banks will hike the interest rates on borrowings in line with the RBI’s bank rate. So if the RBI increases the bank rate, the interest payable on your borrowings will also increase. Thus in times of inflation, RBI increases bank rate, resulting in increase in interest rates of borrowings, thus making borrowing from commercial banks even more expensive.
Impact of inflation on your prices of Goods and Services
Inflation has a significant impact on the cost of goods and services.
Let us say you wanted to buy a computer which costs
INR 1,00,000/- today. The present rate of inflation in India is close to 6%. So the price of the same computer after the following years are:
No of Years | Amount (INR) |
after 10 years | 1,79,085/- |
after 25 years | 4,29,187/- |
after 30 years | 5,74,349/- |
So you can practically observe how the purchasing power of your money decreases in upcoming years.
Purchasing power of money is nothing but the power of money. If you can afford a computer today, and in near future you are able to afford only the monitor with the same amount, then there is a decline in the purchasing power of money.
Present Causes of inflation
Rise in prices of Petroleum and Natural gas:
The main driving force of inflation in india is the sharp rise in the prices of natural gas, petroleum, mineral oil, basic metals etc. this sharp rise is due to global supply chain disruptions caused mainly due to the war between Russia and Ukraine.
Rise in prices of essential food items:
The retail inflation rose mainly on account of rising prices of essential food items like 'oils and fats', vegetables and protein-rich items such as 'meat and fish'. Ukraine is a major exporter of sunflower oil.
Sharp rise in commodity prices:
The sharp rise in commodity prices across the world is a major reason behind the inflation spike in India. This is increasing the import cost for some of the crucial consumables, pushing inflation higher.
Impact of inflation on personal savings and expenses
Creating financial plans and investment plans without accounting for inflation will have a greater negative impact on your financial position in the future. Let us analyse a demonstration. Let us suppose, today your balance in your savings account is INR 5,00,000/-. By taking the present rate of inflation in India into account, which is close to 6%, you are planning to buy a car for 5 lakh. If you postpone your purchase for 10 years, then you have to pay INR 8,95,424/- for the same car, that is you are losing INR 3,95,424/- due to inflation.
Another example would be your college fee. Let us say you are planning to go to an expensive business school. The current fee for the degree is say INR 25,00,000/-. You will be attending the school after 5 years. The fee you need to pay after 5 years would be INR 33,45,564/-. So you will be paying INR 8,45,564/- more for your business school.
So inflation will increase the costs of many commodities and services. An individual has to plan ahead to counter inflation in order to not fall victim to this financial phenomenon. The only way an individual can counter inflation is by investing their savings. The next big question would be, where to invest my savings? There are many instruments in which you can invest your savings but the best financial instrument to invest in order to counter inflation effectively would be in equity stocks. But investing in equity stocks carry a higher degree of risk compared to other investment instruments. So the individual should take guidance from professionals and should choose wisely when it comes to investing and saving their hard earned money from inflationary effects.
I will be covering how to invest your savings to counter inflation in the upcoming posts so do stay tuned, subscribe to my blog to get updates regarding more informational articles on personal finance, investment strategies, latest economic trends and to learn common and essential financial elements.
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