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What are the demand and supply side factors that drive inflation?

By Finserv MARKETS - Nov 20,2019
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Demand and Supply side factors

Inflation occurs when there is a sustained increase in prices of various products and services across the economy. India has not witnessed any alarming increase in inflation even though food prices have risen to a 3-year high. Increase in food prices has led to a slight increase in inflation which stood at 3.99% during September, 2019.

However, inflation is not restricted to food prices; it can extend to every product or service, including utility services, healthcare, housing, automobiles and even jewellery. In India, the inflation in cost of services is more acute compared to the costs of goods. Healthcare, education, recreation, amusement and personal care services are growing at a much higher rate than goods and other services. Recreation, personal care and amusement are more of a luxury, but the rising inflation in healthcare and education is a serious cause of concern for the Indian middle class.

What drives inflation?

Demand and Supply side factors

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Primarily, there are five factors that can create inflation but the major two are the most important reasons.

  • Demand-pull inflation in which demand grows faster than supply due to rapid growth.
  • Cost-push inflation is caused by higher costs of oil or supply side factors.
  • Devaluation of the currency to increase the cost of imported goods and to raise domestic consumption can also lead to inflation.
  • Rising wages increase the costs of the companies employing these workers. Also, an increase in wages enhances purchasing power which again fuels demand and consumption to raise inflation.
  • Expectations of inflation can also cause inflation. In such a scenario workers demand higher wages anticipating an increase in living costs and resultantly force manufacturers and service providers to increase prices.

To revive growth while ensuring that inflation rate remains within target, the 6-member Monetary Policy Committee (MPC) team led by the RBI unanimously voted in favour of a fifth straight rate-cut since the new RBI governor took charge. After the latest repo rate cut of 0.25%, the RBI repo rate effectively stands at 5.15% as of October 2019, the lowest since 2010.

Following the rate cut, this may be the right time for you to apply for a personal loan as personal loans are ready to get cheaper. In fact, the cheapest ever in a decade! Let nothing dampen the joy of the festivities this year with a Bajaj Finserv personal loan available on Finserv MARKETS at attractive personal loan interest rates.

What are the demand side factors that drive inflation?

Demand-pull or demand side inflation occurs when there is an increase in overall demand of products and services from the four main consumers in the economy: Households, businesses, government and foreign buyers.

When the demand for products and services exceeds what the economy can produce, there is competition among the four consumer categories to outbid each other. Resultantly, this competition plays an important role in the surge of prices for goods and services that are already limited in supply. Demand-pull inflation usually occurs in a growing or expanding economy.

What are the supply-side factors that drive inflation?

Supply side or cost-push inflation occurs when the cost of goods and services increase due to an increase in production costs. While demand remains the same, the aggregate supply, which is the sum of goods and services produced by a country at a specific price level, decreases resulting in cost-push inflation. Generally, the costs of production increases due to high costs of labor, raw materials, land and capital.

Why should I worry about inflation?

Inflation has a direct impact on your wealth and purchasing power. It can also erode your savings in the long-term. For example, if your investments fetch returns of 8% and the inflation rate is 3% over the same period, you are only earning 5% in reality.

In parting, it’s also important to remember that low inflation is also not a healthy sign for the economy. A moderately high inflation rate shows that consumption and investments are growing. The most tell-tale sign of a slowing down economy is a slump in core inflation, which is a good indicator of demand in the economy. For India, core inflation dropped to a two-year low of 4.1% in June, 2019, and it doesn’t augur well for the economy.

Don’t let inflation stand in the way of upgrading your home with the latest home appliances and furniture this Diwali, apply for a personal loan on Finserv MARKETS and get a customised Bajaj Finserv personal loan at attractive interest rates.

You can also read about impact of GST on Personal Loan.

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