The inflation rate is a measure of the overall increase in prices over time for a broad basket of goods and services that people need to survive. It’s an essential measure of economic stability and purchasing power, which is why central banks keep a close eye on inflation rates.
Inflation occurs when demand outpaces supply; this can happen when people spend more money, which leads to companies increasing production and prices. It also happens when costs rise due to higher raw material prices, labour wages or other factors; firms then pass these increased costs onto consumers in the form of higher prices.
A rising inflation rate deceases the purchasing power of currency, which can hurt lower-income households the most since they spend a larger proportion of their incomes on essential goods and services. It can also cause businesses to invest less in the economy and hire fewer workers, which can lead to a slowdown in GDP growth.
Despite the negatives of inflation, it isn’t always harmful if it’s well-managed and relatively stable. The government sets a target rate of inflation, known as the inflation target, which it aims to achieve through monetary policy decisions.
Inflation is tracked using an index such as the Consumer Price Index (CPI) or Wholesale Price Index (WPI). The CPI tracks the prices of a broad basket of goods and services that consumers consume, while the WPI measures the prices of goods at the producer level before reaching the retail market. It is more comprehensive than the CPI and is often used as a reference by central banks when making monetary policy decisions.