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May 16, 2024

# Impact of inflation - Overview, CPI, calculation & solutions

Inflation is a term you have probably heard in discussions and news headlines, but what does it really mean? Simply put, it's the increase in prices of goods and services over time. But why should you care? Because it affects how much your money can buy and can impact everything from groceries to your savings. In this article, we will break down what inflation is, why it matters, and how it can impact your wallet.

## What is inflation?

Inflation is the rate at which the prices of goods and services increase over a period of time. The rising inflation directly decreases the purchasing power of the consumers. Let's understand this with an example.

Suppose you have ₹100, and the price of one chocolate is ₹10. You can buy 10 chocolates. If the price increases to ₹20 per chocolate, you can only buy 5 chocolates now. This is how inflation decreases your purchasing power, as with the same amount of money, you are able to buy a lesser quantity of goods or services with the passage of time.

To understand how inflation is measured, we need to understand what is Consumer Price Index and Wholesale Price Index.

## How is Inflation calculated?

The Consumer Price Index and Wholesale Price Index are two of the most common ways to calculate inflation. Let’s understand what is CPI and WPI:

## 1) Consumer Price Index (CPI)

The Consumer Price Index (CPI) is the index that takes into account the weighted average of the prices of goods and services that are sold to consumers. It is also known as headline inflation. These normally include goods and services like food, transportation, medical care, etc. CPI is determined by considering the price changes for each item in the predetermined basket of goods and services and averaging them based on their relative weights in the whole basket.

## 2) Wholesale Price Index (WPI)

The Wholesale Price Index (WPI) considers the changes in the price of goods before they enter the retail level. This represents the price of goods traded at the wholesale stage and sold in bulk, often between the organisations.

## How can Inflation impact your savings?

Until now, it is quite clear that inflation increases the price of goods and services. Therefore, it directly impacts your savings. With the rise in inflation, you have to shell out more money to continue living the same quality of life. Your income might or might not be in tandem with inflation. This creates a disbalance as your expenses are rising faster than your income. This will directly reduce your savings capability each month.

## Ways to beat inflation

The best way to beat inflation is to invest. Here are the different avenues where you can invest to earn inflation-beating returns:

• Equity oriented investments: Stocks and equity mutual funds are market-linked instruments that can help you earn returns higher than the inflation rate, especially in the long run. However, in the case of direct equity investment, you have to select right stocks. This burden of selecting the right stocks falls on fund managers if you decide to invest in Equity Mutual Funds.
• Gold: Gold has been a preferred investment choice for most investors in India. Historically, gold has always acted as a great hedge against inflation. With its finite supply, gold's value tends to rise over time, offering returns that shield against the erosive effects of inflation.
• Real Estate: Real estate is another investment avenue that has the potential to earn inflation-beating returns. You get the option to invest either in residential or commercial real estate. You can earn returns in the form of rental income or capital appreciation. However, most real estate investments require huge initial capital that often runs in lakhs. Alternatively, you can also invest in Real Estate Investment Trust (REIT) units.
• Debt-Oriented Investments: Certain debt funds and inflation-indexed bonds have the potential to generate better inflation-adjusted returns. Debt funds that invest in medium to longer maturity debt instruments like gilt funds, long duration funds etc. have potential to generate higher returns than traditional fixed income instruments in form of capital appreciation and interest payments. However, these debt funds are exposed to relatively high risks due to changes in interest rates.

## Bottomline

Choosing not to invest means letting inflation slowly erode the value of your savings. Inflation eats into your purchasing power. If you don't act, you're essentially losing wealth without even realising it. This underscores the importance of investing in products like Mutual Funds, which have the potential to not only preserve but also grow your wealth over time.

Disclaimer: This article is for information purpose only. The views expressed in this article are personal and do not necessarily constitute the views of Axis Bank Ltd. and its employees. Axis Bank Ltd. and/or the author shall not be responsible for any direct / indirect loss or liability incurred by the reader for taking any financial decisions based on the contents and information. Please consult your financial advisor before making any financial decision.

Mutual Fund investments are subject to market risk, read all scheme related documents carefully. Axis Bank Ltd is acting as an AMFI registered MF Distributor (ARN code: ARN-0019). Purchase of Mutual Funds by Axis Bank’s customer is purely voluntary and not linked to availment of any other facility from the Bank. T&C apply.