How to Calculate Inflation Rate in India?

A high inflation results in a greater increase in the costs of general 'need-based' items, such as food and healthcare, as well as 'want-based' items, such as jewellery or automobiles. Inflation is computed by using Consumer Price Index (CPI). It is a commonly used term to evaluate inflation by determining the rate of price changes for a basket of fixed goods and services over a determined period.

CPI = (Cost of Fixed Basket of Goods and Services in Existing Year / Cost of Fixed Basket of Goods and Services in Base Year) X 100.

You can only use this formula to determine the inflation rate once the CPI for the current and base years is known to you.

The mathematical formula to compute Consumer Price Index in an economy is as follows:

CPI = (Cost of Fixed Basket of Goods and Services in Existing Year / Cost of Fixed Basket of Goods and Services in Base Year) X 100

Let us suppose that the cost of the average fixed basket of goods and services in the current year is ₹1050, and the average fixed basket of goods and services in the base year is ₹775.

Then, the equation will stand at ₹1050 / ₹775 = 1.36

After getting this value, multiply the same by 100, which will be 1.36 X 100 = 136

Now, subtract this numeral from 100 to get the final percentage of change, which is 36%.

This means there is a total 36% change in product prices since the base year.

The rate of inflation can be calculated by using the GDP deflator. It measures the changes in the price of goods and services. To get the GDP deflator, you need to calculate the ratio of nominal to real GDP. In other words, the GDP deflator is computed as nominal GDP divided by real GDP and multiplied by 100.

The formula to determine inflation using the GDP deflator is given below:

GDP Price Deflator = (Nominal GDP / Real GDP) × 100

As you can see, this formula helps you figure out the inflation rate in terms of GDP. Here, the changes in consumption level and the introduction of new and existing products and services are incorporated. It contrasts the fixed basket of goods and services measured in the inflation calculation through CPI. As a result, the inflation rate measured by the GDP deflator accurately exhibits how economic power has changed over a determined period.

In an economy, inflation is caused when the general price level of goods and services increases, but the currency's purchasing power decreases. Mentioned below are some examples of calculating inflation:

Example 1: Often, inflation escalates food or oil prices in an economy. For instance, when the price of oil goes from ₹6000 per barrel to ₹7500 per barrel, the prices of production will rise alongside the transportation costs for individuals. This will increase the prices of multiple other items in response.

Example 2: The phenomenon of inflation also occurs in the price of milk. Suppose, during 1915, one gallon of milk cost almost ₹10 litres. After a hundred years, in 2015, the milk price was almost ₹30 per litre. This escalation in the price is not because it has become scarce or costlier to produce. Instead, this increase in the price level of milk is due to the gradual decline in the value of money due to inflation.

The inflationary situation signifies an economic scenario wherein the supply of money exceeds the supply of commodities. The 100% inflation rate reflects that prices for the determined goods or services become double. In case it goes beyond 100%, prices more than double.

For a better understanding, here is an example of calculating inflation using the Consumer Price Index (CPI).

During an inflationary situation, the irregular rising of prices unavoidably lessens the currency's purchasing power. Having a clear idea about how to calculate the inflation rate makes it easier for consumers to anticipate inflation and make their budgetary plans prudently. This way, they can spend their money sensibly since they can guess the future prices.