To the fellow victims of high-inflation,
When foreigners in past used to call India -the country of “snake-charmers”, we hardly knew that even today the word snake can be used in bit different context. Since 2010-11 we (especially middle class & lower and retirees) have been bitten by the snake called high inflation.
Inflation can be understood( I am just taking one perspective to inflation, there are many dynamics, perspectives to inflation) as lets say you used to buy pizza at Rs.100 a year back, now after one year everything is same but when you go to buy pizza the price is Rs.110. So, The price of the product has moved up but the product we get is the same product-everything is same for the product. (There is no value addition for that extra Rs.10 you pay).
So, in the simplest way if we say when everything is same or all other factors are same about the product (quantity, quality etc) but over a period of time you have to shell out or pay more money for buying same product that can be termed inflation (General increase in the price).
Now-a-days as many of you must be knowing, the famous gimmick played by producers to tackle inflation is instead of increasing the price of the product (in highly competitive environment producers may not be able to increase price frequently but still smartly they have to adjust for inflation to protect their profit margin); they decrease the quantity or change in quality & sell the product at the same price.
But the thing to understand is that, this is still inflation friends! Keep always in mind that inflation does not mean here that the price increase has to happen. When you can still give Rs.100 for buying that pizza after year & due to competition that Pizza Company has not increased the price, but now when you buy that pizza may be the size is decreased or change in quality. So for same amount of money (Rs.100) you got less of quantity or quality as compared to what you bought one year back, so inflation still hurt you. If nothing is changed for product & price is still same in inflationary scenario, the company or some entity in chain must have taken profit margin hit. (Decrease in profit margin)
So, in true sense we can say inflation reduces the worth of money (or as they say “real purchasing power of money”). Means either you will have to shell out more money to buy same product or with the same money you will get less of product.
The way we can see it…..
For salaried persons: for year 2011 & 2012 average annual inflation was between 8% to 9.30% & lets say you as salaried person got annual increment of average 5% only in you salary(so, products prices increased by generally 8% to 9.30% but your salary increased by 5% only in those years), you actually made loss or to say when you have to spend extra money on your many requirements due to inflation, against that what you received was not equal and in fact less. Difference between what you have to pay (due to high inflation) & what you received is you have to fill that difference from your savings or other monetary resources.
For retirees: The high inflationary scenario is always toughest for retirees. In many of the cases where retires only have fixed pension cash inflows & they have to spend more due to inflation- increase in product prices-they face real trouble. For solution there should be inflation linked saving schemes which can provide inflation-hedge to savers.
For students : Imagine when you have lot many things to manage(birthday parties, night outs, movies & all) & your pocket money(provided your papa is not really in mood to increase your pocket money in line with inflation) remain same as compare to increase in prices of all the stuff due to inflation. What a miserable life it becomes due to inflation…!
and so on for all the people...
Friends! inflation has always important (we like it or not!) role to play in our daily life. For any return calculation one should always take inflation rate into consideration. With the basic understanding we can also calculate inflation adjusted returns.
For E.g. Lets say you earned lasted year 10 % on particular investment & in last year inflation rate was averaged at 8%. Now here if you forget inflation rate you will fell like you earned 10% return but see that in last year when you earned 10% return, in the same year general prices of goods & services also increased by around 8%. So to get inflation adjusted return;
= (1 + nominal rate of return / 1+ inflation rate) – 1
= ( 1+ 0.1 / 1+ 0.08) -1
= 0.0185 *100(to convert into %)
= 1.85% (Real rate of return OR inflation-adjusted return)
So, we can say actually what you got is after inflation adjustment 1.85%.
Same way you can also adjust your expenses in line with inflation. For E.g. lets say you are spending Rs.10, 000 for milk & stuff yearly & you feel that inflation is going to be averaged 7% yearly. So what would be my spending for milk & stuff after 10 years?
= present expense * (1+ expected inflation rate) ^ no. of years
=10,000 *(1+0.07) ^10
=19671.51
So you have to shell out Rs.19671.51 instead of Rs.10, 000 after 10 years for milk & stuff with expectation of inflation averaged at 7%.
So, next time friends! Whether you are doing financial planning for your family or for any particular occasion or calculating future increase in expenses due to high inflation or calculating rate of return on any investment…..think about inflation & then calculate after adjusting for inflation.
Note: The above write-up is just for very basic understanding of inflation from common man‘s perspective. There are different types of inflations & components to inflations & different perspective to inflation from different fields and so on and so forth…which is beyond capacity here.
