Imported Inflation & Currency Depreciation
Indian Economy
- PYQs8
- Articles1
Background
These concepts are critical for understanding inflation dynamics, balance of payments, monetary policy responses, and the vulnerability of an economy to global price shocks and exchange rate fluctuations. They explain how external factors can influence domestic economic indicators and government revenues.
Imported inflation refers to the rise in the price of imported goods and services, which then contributes to overall inflation within the domestic economy. Currency depreciation, where a country's currency loses value relative to other currencies, makes imports more expensive in local currency terms, directly fueling imported inflation.
Facts & tables
- Mechanism
- Rupee depreciation makes imports costlier in INR terms.
- Impact on Prices
- Higher import prices (e.g., crude oil, gold) directly increase domestic costs.
- Inflation Type
- Contributes to cost-push inflation.
- External Sector Impact
- Affects trade balance and current account deficit.
| Type | Reference |
|---|---|
| Conceptual area | Macroeconomic Trends & Inflation |
| Conceptual area | External Sector & Capital Flows |
| Body | Role |
|---|---|
| Reserve Bank of India (RBI) | Manages currency and inflation |
Prelims angle
Prelims angle: Statement-based questions
Prelims angle: Conceptual understanding
- Currency depreciation makes imports more expensive in local currency.
- Higher import costs directly contribute to domestic price rises.
- Leads to cost-push inflation, affecting production and consumer prices.
- Impacts trade balance, current account, and government tax revenues.
- Can mask underlying weakness in domestic economic activity.
| Year | Framing tags |
|---|---|
| 2023 | Multi-statement analysis, Conceptual understanding |
| 2022 | Statement-based questions, Conceptual understanding |
| 2022 | Statement-based questions, Conceptual understanding |
| 2022 | Institutional roles and functions, Factual recall |
| 2020 | Multi-statement analysis, Conceptual understanding |
| 2019 | Statement-based questions, Factual recall |
| 2015 | Factual recall, Institutional roles and functions |
| 2015 | Statement-based questions, Factual recall |
Timeline
-
Macroeconomic Trends & Inflation
Conceptual area
-
External Sector & Capital Flows
Conceptual area
-
Prelims 2015
Factual recall, Institutional roles and functions
-
Prelims 2015
Statement-based questions, Factual recall
-
Prelims 2019
Statement-based questions, Factual recall
-
Prelims 2020
Multi-statement analysis, Conceptual understanding
-
Prelims 2022
Statement-based questions, Conceptual understanding
-
Prelims 2022
Statement-based questions, Conceptual understanding
-
Prelims 2022
Institutional roles and functions, Factual recall
-
Prelims 2023
Multi-statement analysis, Conceptual understanding
-
Unwelcome surge: On the buoyancy in GST collections
Imported inflation, often exacerbated by currency depreciation, occurs when the cost of imported goods rises, pushing up domestic prices. The article highlights how rupee depreciation and higher global prices for imports like gold and petroleum mechanically raised India's GST tax base, indicating an 'unwelcome increase' driven by prices rather than stronger domestic value addition, alongside a subdued domestic economy.
See also
Past papers
2015–2023 · 8 questions
In the news
Unwelcome surge: On the buoyancy in GST collections
Imported inflation, often exacerbated by currency depreciation, occurs when the cost of imported goods rises, pushing up domestic prices. The article highlights how rupee depreciation and higher global prices for imports like gold and petroleum mechanically raised India's GST tax base, indicating an 'unwelcome increase' driven by prices rather than stronger domestic value addition, alongside a subdued domestic economy.
Try these PYQs
With reference to the Indian economy, consider the following statements:
1. An increase in Nominal Effective Exchange Rate (NEER) indicates the appreciation of rupee.
2. An increase in the Real Effective Exchange Rate (REER) indicates an improvement in trade competitiveness.
3. An increasing trend in domestic inflation relative to inflation in other countries is likely to cause an increasing divergence between NEER and REER.
Which of the above statements are correct?
* Statement 1 is correct. The nominal Effective Exchange Rate (NEER) is a measure of the value of a country's currency against a basket of other currencies weighted by their importance in trade. If NEER increases, it means that the value of the currency has increased relative to the currencies in the basket, indicating appreciation. * Statement 2 is incorrect. The Real Effective Exchange Rate (REER) takes into account both nominal exchange rates and relative price levels (inflation) between countries. An increase in REER means that the country's currency is overvalued relative to its trading partners, which can reduce trade competitiveness. * Statement 3 is correct. If domestic inflation is higher than inflation in other countries, the real value of the domestic currency decreases faster than the nominal value, causing a divergence between NEER and REER. Therefore, the correct statements are 1 and 3.
Consider the following statements:
1. The weightage of food in Consumer Price Index (CPI) is higher than that in Wholesale Price Index (WPI).
2. The WPI does not capture changes in the prices of services, which CPI does.
3. Reserve Bank of India has now adopted WPI as its key measure of inflation and to decide on changing the key policy rates.
Which of the statements given above is/are correct?
Statement 1 is correct. As per the data given in the Economic Survey 2019-2020, the weightage of food in the Consumer Price Index (CPI) Combined is 45.9% as compared to 24.4% in Wholesale Price Index (WPI). Statement 2 is correct. The CPI measures the average change in prices over time that consumers pay for a basket of goods and services, commonly known as inflation, whereas WPI does not measure the average change in prices. Statement 3 is incorrect. In April 2014, the RBI adopted the Consumer Price Index (CPI) as its key measure of inflation. Hence, option A is the correct answer.
With reference to Convertible Bonds consider the following statements:
1. As there is an option to exchange the bond for equity, Convertible Bonds pay a lower rate of interest.
2. The option to convert to equity affords the bondholder a degree of indexation to rising consumer prices.
Which of the statements given above is / are correct?
A convertible bond is a type of debt security that provides an investor with a right or an obligation to exchange the bond for a predetermined number of shares in the issuing company at certain times of a bond's lifetime. It is a hybrid security that possesses features of both debt and equity. * Statement 1 is correct: Convertible bonds tend to offer a lower coupon rate or rate of return in exchange for the value of the option to convert the bond into a common stock. Investors will generally accept a lower coupon rate on a convertible bond, compared with the coupon rate on an otherwise identical regular bond, because of its conversion feature. This enables the issuer to save on interest expenses, which can be substantial in the case of a large bond issue. * Statement 2 is correct: The option to convert to equity affords the bondholder a degree of indexation to rising consumer prices as equity prices can differ widely from the given interest and the difference in that can be used as a hedge for inflation.
With reference to the India economy, consider the following statements:
1. The rate of growth of real Gross Domestic Product has steadily increased in the last decade.
2. The Gross Domestic Product at market prices (in rupees) has steadily increased in the last decade
Which of the statements given above is/are correct?
Statement 1 is incorrect: The rate of growth of real Gross Domestic Product has fluctuated over the decade. Statement 2 is correct: The Gross Domestic Product at market prices (in rupees) has steadily increased in the last decade. Thus, statement 1 is incorrect while statement 2 is correct.
Correct the following statements:
Statement-I: In the post-pandemic recent past, many Central Banks worldwide had carried out interest rate hikes.
Statement-II: Central Banks generally assume that they have the ability to counteract the rising consumer prices via monetary policy means.
Which one of the following is correct in respect of the above statements?
* Statement I- correct: In the aftermath of the COVID-19 pandemic, many central banks around the world observed rising inflation. To combat this inflation, they resorted to raising interest rates. This is a well-established monetary policy tool to curb inflation by making borrowing more expensive and encouraging saving, thereby reducing the money supply in circulation. * Statement II- correct: Central banks are entrusted with maintaining price stability and managing inflation. Raising interest rates is one of the primary instruments they use to achieve this objective. While other factors can influence inflation, central banks do have the ability to significantly impact it through monetary policy measures. Therefore, both statements accurately reflect the role of central banks and their use of interest rates to manage inflation and statement 2 is the correct explanation for statement 1.
Show 3 more PYQs
In India, which one of the following is responsible for maintaining price stability by controlling inflation?
The responsibility for maintaining price stability and controlling inflation in India lies primarily with the Reserve Bank of India (RBI). The RBI formulates and implements monetary policy to maintain price stability and ensure adequate flow of credit to productive sectors of the economy. As the central bank of the country, the RBI uses various tools such as repo rate, reverse repo rate, cash reserve ratio (CRR), and statutory liquidity ratio (SLR) to influence liquidity and interest rates in the economy, thereby affecting inflationary pressures.
Consider the following statements:
1. Purchasing Power Parity (PPP) exchange rates are calculated by comparing the prices of the same basket of goods and services in different countries.
2. In terms of PPP dollars, India is the sixth largest economy in the world.
Which of the statements given above is/are correct?
Statement 1 is correct: Purchasing Power Parity (PPP) exchange rates are calculated by comparing the prices of the same basket of goods and services in different countries. Statement 2 is incorrect: India is not the sixth-largest economy in the world in terms of PPP dollars. It is currently the third largest economy in terms of PPP dollars, after China and the United States.
Which of the following brings out the ‘Consumer Price Index Number for Industrial Workers’?
The Labour Bureau, attached to the Ministry of Labour and Employment, is responsible for compiling and publishing the Consumer Price Index Number for Industrial Workers (CPI-IW) in India. This index tracks changes in the retail prices of a basket of goods and services consumed by industrial workers. It serves as a crucial indicator of inflation faced by this specific segment of the population. The Labour Bureau is responsible for maintaining:
- CPI (Industrial Workers) - CPI (Rural Labourers) - CPI (Agricultural Labourers)