 What is inflation? Inflation is a general increase in the level of prices of all goods and services in a country. A once-off increase in the prices of individual products or services, for instance, a petrol price hike, cannot be regarded as inflation. This is often referred to as a price impulse, and it merely implies that an item has become more expensive. However, when the prices of all goods and services increase, and these price increases start a process of continually increasing prices, a country suffers inflation. This is often referred to as an inflation spiral. South Africa has suffered high inflation since 1973. Although South Africa has experienced inflation for many years, not all countries suffer inflation. Some countries even experience declining prices. This is when items get cheaper rather than more expensive every month. This is called deflation the opposite of inflation. How is inflation measured? The price level in South Africa is measured by means of the Consumer Price Index, or CPI, and the rate of change in the CPI is the rate of inflation. Although inflation can be calculated for any given period, the durations most often used are for the monthly. For example, the CPI index value for February 2015 on January 2015 and annually, for example, the CPI index value for February 2015 on February 2014 changes. The CPI is measured at an aggregated average level. Its aim is to reflect the price level faced by the average household. Visualize, for example, a huge basket containing all of the hundreds of goods and services consumed every month by a typical household. But what do we mean by price level and average household? In South Africa, the price level and the rate of inflation are measured and calculated by statistics South Africa, a government department. An average household cannot be found in practice, but it is used for the measurement of inflation to calculate an inflation rate for the whole country. Statistics South Africa uses data from, amongst others, its various household surveys as well as the CPI report to estimate the average price increase in South Africa. One example is smoking, because some members of the public smoke spending on tobacco is included in the CPI and therefore in the measurement of the rate of inflation. This is tantamount to assuming that there are smokers in each household, which is naturally not true. Nevertheless, the measurement of the average spending pattern provides for the spending on tobacco. The Inflation Basket The composition and measurement of the CPI is not a simple matter as it is necessary to make provision for the amounts people spend on different items. To allow for the differences in personal spending, a system of spending weights is used. Spending weights simply reflect the percentage of its income that an average South African household spends on different items and as a whole it is often referred to as the inflation basket. Roughly 400 goods and services make up the CPI basket. They are grouped into 12 major categories. Typical heavy weighted categories include housing and utility costs, spending on food and non-alcoholic beverages, as well as transport costs. These spending percentages or spending weights are revised periodically to ensure that the CPI still reflects the spending pattern of an average household. These revisions also allow for the inclusion of new products and services that did not exist before, for instance cell phone expenditure at the time of its introduction. This approach also allows for the exclusion of products and services no longer generally used by households and consumers, for instance video cassette recorders. Other Types of Inflation Because CPI is calculated for an average household, it is a general indication of the average rate of price increases in the economy. This is also a major reason why the measure is used for monetary policy purposes. The South African Reserve Bank, the Central Bank, is responsible for monetary policy and aims to keep the rate of inflation between 3 and 6% per annum. Although this overall rate of inflation for the whole country is the most important inflation rate, it is not the only inflation rate that is calculated and published. Next, we look at a few other types of inflation. Producer Price Inflation The Producer Price Index, or PPI, measures changes in the prices of locally produced commodities and is used to calculate producer inflation. In general terms, it can be defined as the price of goods as they enter or leave the factory's gates. The PPI can be used as an economic indicator of inflation. It can also be used to adjust payment amounts stipulated in contracts that run over many years to take account of price increases. Core Inflation The objective of core inflation is the exclusion of price movements of volatile items, often subject to seasonal price movements or prices under the control of the authority. Core inflation excludes foods such as meat, fish, vegetables, fruit and nuts, interest in loans and changes in the rates of value added and property tax. Pension Is Inflation An example of another rate of inflation that is calculated is the pensioner's inflation rate. The spending pattern of pensioners differs from that of an average household mainly because pensioners typically spend more on medical care. It is also necessary to remember that pensioners continue to face inflation. It is therefore important to save and make sufficient provision for retirement that takes into consideration the influence of inflation. Other examples of inflation rates are the rates of the different provinces of South Africa and CPI excluding various cost items such as energy costs or administered prices. Conclusion Regardless of its various forms and official definitions, we all know what inflation feels like. The money we have in our wallets can purchase less goods and services than before as prices increase. These continuous widespread price increases simply confirm that inflation is present in an economy. It is clear that the inflation rate of individual households can differ from the official rate of inflation. It is therefore important for all consumers to have an idea of their personal inflation rates. This will help them to plan their own budgets. It is also very important to keep the eroding effects of inflation on savings in mind when making investment decisions.