CHAPTER-2

REVIEW OF LITERATURE

Invest in inflation. Its the only thing going up.

REVIEW OF LITERATURE

All available literatures covering the problem at hand must necessarily be surveyed and examined before actively involving in research. That is, the research must be well convergent with the relevant literatures. This would help the researcher to know if there are certain gaps in the theories or if the existing theories which are applicable to the problem under the study are in consistent with each other or if the findings of different studies do not follow a pattern consistence with the theoretical explanations and so on. All this will enable a researcher to take new steps in the field for furtherance of knowledge. Studies on related problems are useful for studying difficulties that may be encountered in the present studies and also help to pin point the possible analytical shortcomings and also steps to overcome them. The literary review of the present study is as follows.

1. Inflation theory: A critical literature review and a new research agenda by Alfredo Saad-Filho (2000) analyses the Marxian analyses of inflation which tend to fall under three broad categories, those that emphasize primarily - 1. The role distributive conflicts, 2. Monopoly power or 3. State intervention on the dynamics of credit money. This article reviews these interpretations, and indicates how they can be integrated. The proposed approach, based on the extra money view, departs from the circuit of capital and the endogeneity of credit money in order to explain inflation in inconvertible paper money systems. 2. Dorom Nissim and [Link], in their issue Ratio analysis and equity valuation (2001) outline a financial statement analysis for use in equity

valuation. The perspective is one of forecasting payoffs to equities. So, financial statement analysis is presented as a matter of pro form analysis of the future, with forecasted ratios viewed as building blocks of forecast of payoffs. The analysis of current financial statements is then seen as a matter of identifying current ratios predictors of future ratios that determine equity payoffs. To provide historical benchmarks for forecasting, typical values for ratios are documented for the period 1963-1999, along with their cross-sectional variation and correlation. 3. The paper Inflation and Economic Growth in India An Empirical Analysis (2002) by Prasanna V Salian and Gopakumar.K seeks to examine the relationship between inflation and GDP growth in India. Empirical evidence is obtained from the co-integration and error correction models using annual data collected from the Reserve Bank of India. The result shows that there is a long-run negative relationship between inflation and GDP growth rate in India. Inflation is harmful rather than helpful to growth. These results have important policy implications. 4. Inflation Expectation and Financial Markets (2005) a research by Yang Gao examines the expectation of inflation and its interaction with various financial markets. An overview of behavioral finance was given which illustrates how people form expectations and make decisions. Then the case of inflation expectation was analyzed in an attempt to measure it with an econometric model. How investors perform with inflation expectation measures was investigated. Finally, the impact of technology on market efficiency was analyzed and implications of the findings were offered. 5. The thesis A time-varying parameter model of inflation in India by Sudhanshu Kumar, Naveen Srinivasan and Muthiah Ramachandran (2006) depicts, Indias recurrent bouts of high inflation together with sub-par economic

performance. A time-varying parameter model for inflation is proposed which nests all the plausible explanations. The time variation in parameters is modeled as drift less random walks, and is estimated using the median unbiased estimator. The median unbiased estimate helps in addressing the pile-up problem, which arise if variances of the state specification are small. In such cases the maximum likelihood estimates are biased towards zero. Kalman Filter algorithm is used to obtain the time path of the parameters of the reduced form equation. It has been found that while better monetary policy and structural change have played a non-trivial role, good luck and exchange rate regime have played a major role in the moderation of inflation in the 1990s. This interpretation suggests that to prevent a resurgence of 1970s-style inflation, the central bank should reinforce as much as possible its commitment to low inflation by institutional, operational, and rhetorical means. Otherwise, sooner or later, luck will dry out and high inflation could return.

6. Henry P. Moynihan, Vineet Jain, Robert W. McLeod, Daniel J. Fonseca in their paper titled Financial analysis (2006) reported the various methods in which a companys financial statements can be scrutinized. The paper states that the most easy, convenient and efficient method of analysis is through ratios. The different ratios that may use and their effectiveness need and interpretations are thoroughly brought out. The paper concludes that the most efficient method to measure a companys past, present and future is through ratio analysis. 7. Mahesh Chand Garg and Deepti in their project Financial Performance Analysis of General Insurers in India (2007) conducted a comparative evaluation on the financial performance of general insurers in India based on the ratios analysis. The research tries to figure out the statistical significance level of similarity between an insurer and the best performing insurer in its group for each ratio and also between public and private insurers using the t-test. However, since the t-test assumes normality in the sample sets under test, all those ratios which do

not satisfy the normality assumption are analyzed using Mann-Whitney U test. Normality has been checked using Kolmogorov-Smirnov test adjusted to Lilliefors corrections and Shapiro-Wilks test. The study includes four public sector and four private sector insurers. All the ratios considered cover the data for the period 1994 95 to 200506 for public insurers and post-liberalization period 200102 to 2005 06 for private insurers. 8. Noha Emara in her study Inflation Volatility, Institutions, and Economic Growth (2007) analyzes the effect of inflation volatility on growth in the presence of different degrees of institutional development. A nonlinear growth regression specification using a system Generalized Method of Moments (GMM) procedure on a sample of 37 countries over the period 19892006 is estimated. While the level of inflation was found not to have a significant effect on growth, which is in line with previous studies, inflation volatility does significantly impact growth even for countries with moderately high levels on inflation. In addition and in contrast with the results of Acemoglu et al. (2003) and Easterly (2005), the study finds that policies, particularly inflation volatility, does not act as a proxy for institutions. Improving institutions will have a statistically significant positive impact on growth which will help to reduce the negative impact of inflation volatility. 9. Monetary policy, expected inflation and inflation risk-premia(2007) a research by Federico Ravenna and Juha Seppl brings out variables that are normally unobservable but are very important for the conduct of monetary policy, namely expected inflation and inflation risk premia. They solve the model using a third-order approximation that allows studying time-varying risk premia. The model is consistent with rejection of the expectations hypothesis and the business cycle behavior of nominal interest rates in US data. They state that inflation risk premia are very small and display little volatility. Hence, monetary policy

authorities can use the difference between nominal and real interest rates from index-linked bonds as a proxy for inflation expectations. Moreover, for short maturities current inflation is a good predictor of inflation risk premia. They also compute that short-term real interest rates and expected inflation are significantly negatively correlated and that short-term real interest rates display greater volatility than expected inflation. These results are consistent with empirical studies that use survey data and index-linked bonds to obtain measures of expected inflation and real interest rates. Finally, they conclude that the economy is consistent with the Mundell-Tobin effect: increases in inflation are associated with higher nominal interest rates, but lower real interest rates.

10. Financial Analysis for S.S.V. Telecommunication of Iran (2007) a research by Maryam Haji Mohammad Hossein Memar reports the financial performance of the company for five years from 2002-2006. The main tool for analysis is ratio analysis. The profitability, liquidity and the turnover of the company is analyzed and the growth of the company both quantitatively and qualitatively is brought out through trend analysis also. The reason for the abnormal profits earned by the company is concluded to be because of the change in the economic conditions and also the expansion of the company. The highlights of the company through the years are also reported. 11. Commodity Prices and Domestic Inflation in India (2008) a research by Ajit R. Joshi and Debashis Acharya examines the relationship between international prices of primary commodities and domestic inflation in India. It has been explored empirically for the period 1994 to 2007. For this purpose a commodity price index with international price quotations and domestic WPI weights has been constructed. The empirical results show that co-integration between international and domestic prices have grown stronger in the period since 2000. The co-movement is found at

both aggregate indices as also the sub-groups viz. fuel and manufactured products. From this analysis, it was found that it is necessary to use an appropriate index, in order to capture the country-specific exposure, rather than using the aggregate indices published by international agencies, whose coverage and weights may not represent the risks and exposures of specific countries. 12. In the project, titled A Study On Financial Performance Using Ratio Analysis At Emami Ltd (2008) by [Link] analyses the liquidity and profitability position of the company using ratio analysis. The study is made to evaluate the financial position, the operational results as well as financial progress of a business concern. This study also explains ways in which ratio analysis can be of assistance in long-rang planning, budgeting and asset management to strengthen financial performance and help avoid financial difficulties. The study not only throws on the financial position of a firm but also serves as a stepping stone to remedial measures for Emami Limited. 13. Performance evaluation and ratio analysis of Pharmaceutical Company in Bangladesh (2009) A thesis by Faruk Hossan Md Ahsan Habib applies to the performance evaluation of two pharmaceutical companies in Bangladesh. The main aim is achieved through ratio analysis of two pharmaceutical (Beximco and Square pharmaceutical) companies in Bangladesh. The main data is collection from the annual financial reports on Beximco and square pharmaceutical companies (2007 to 2008). Different financial ratios are evaluated. According to their study Beximo has a better overall financial performance. 14. The Impact of Inflation on Business and Trade: a case study of Ghana and Canada (2009) a thesis prepared by Kris Rasmussen and Daniel Odei Tetteh looks at the relationship between inflation, interest rate, exchange rate and GDP for a developed country (Canada) and a developing country (Ghana). Through a

detailed literature search looking at the economies of Ghana and Canada as well as statistical analysis using least squares and regression models the thesis analyses the impact of inflation on businesses, trade and the correlation between inflation and interest rate both in Ghana and Canada, effect of inflation on the exchange rate development of import and export, monetary policy used in Canada and Ghana to control inflation. The thesis concludes that Canada is a developed country and Ghana is a developing country hence Canada has a better control over its inflation and uses it positively.

15. Testing the impact of inflation targeting on inflation (2009) a research by George B. Tawadros deals with the impact of inflation targeting on inflation for 27 countries that have adopted an inflation-targeting regime. The paper uses intervention analysis in Harvey's structural time series model to analyze the impact of inflation targeting on inflation, using quarterly observations. This approach provides the most useful framework for separating changes that occur to a series ordinarily over time from those happening due to exogenous events identified a priori, such as inflation targeting. The empirical evidence suggests that almost all of the central banks that have pursued this strategy have been unsuccessful at controlling inflation, with the results indicating that the adoption of an inflationtargeting regime has had the perverse effect on inflation for almost every country. The implication of the finding is that central banks which have adopted an inflation-targeting regime do not appear to have been particularly successful in reducing inflation in any significant way, as is regularly claimed in the extant literature. The paper provides further evidence against the adoption of an inflationtargeting regime using an unconventional approach for 27 countries that are regarded as fully-fledged inflation-targeting countries.

16. Has the link between inflation uncertainty and interest rates changed after inflation targeting?(2009) a research by Girijasankar Mallik and Ramprasad Bhar purposes to establish a link between inflation uncertainty and interest rates for five inflation-targeting countries. This study attempts to establish a link between inflation uncertainty and interest rates for five inflation-targeting countries, i.e. Canada, Finland, Spain, Sweden, and the UK. Decomposing inflation uncertainty into two components impulse and structural, a positive association was found between the expected inflation and interest rates. Structural uncertainty has a positive and significant effect on interest rates for some countries. It has also been found that the long-run effects of inflation on interest rates are less than unity for the post-inflation targeting period, which implies that in some respect the Central Bank has been successful in targeting inflation. This has allowed the Central Bank to employ a less restrictive monetary policy in an environment of a credible inflation-targeting strategy.

17. [Link] in his research effects of inflation on the car market (2010) explains that inflation always has a negative effect on the car market. The effect of inflation on vehicle manufacturers have consequently affected the vehicle dealers in a manner where they are being forced to thrust the sales curve upward and maintain a high volume of profit. In this arrangement, the vehicle financers are compelled by both vehicle dealers and vehicle manufacturers to offer the customers a 100% financial assistance by lowering the interest rate of the loan. 18. Bornali Bhandari and Rumki Majumdar of INFOSYS in their study, Inflation over the decades (2010) have compared the consumer inflation in India over the last 40 years. Current inflation rates are high, but not too worrisome in relation to the experience of the last 40 years. Increased volatility, however, is a concern they say. Inflation rates' volatility reduced sharply after the mid-1980s. It remained

low thereafter except for brief periods. Since 2009, we see rise in volatility, although they are nowhere near the levels seen in the 1960s to the early 1980s they observe. 19. Mr. Deepak Mohanty, RBI Deputy Governor, in his article DRIVERS OF INFLATION (2010) summarized the major factors that have driven inflation. They are as follows. Historically, high inflation in India has been a combination of three factors: poor agricultural productivity and high dependence on monsoon; commodity price shocks, mainly oil prices; global business cycles and wars. During the 1970s and the early 1980s, OPEC price hike and inconsistent oil supply was one of the major factors that led to higher inflation in India. India being a net importer of oil, exogenous supply shock had a cascading impact on prices of inputs and deteriorating balance of payments. In the 1980s and the early 1990s, supply shocks (food shortages and oil price rise due to US-Iraq war) were accompanied by demand pressures of high fiscal deficit in the 1980s and growing GDP in the 1990s. He concludes that the declining trend in inflation during 1994-95 to 2004-05 was the result of structural changes in the macroeconomic framework due to liberalization.

20. According to a survey Indian business reels under inflationary pressure: Survey by The press trust of India (2011) Indian businesses of all sizes are facing the impact of inflation in terms of rising labor and raw material costs, as well as logistics expenses, according to a survey. Rising raw material costs (54%) were also highlighted as a major concern the top three effects of inflation experienced by the businesses are increases in labor, logistics and raw material costs, the survey said. With the Reserve Bank raising its benchmark short-term interest rates by 50 basis points on May 3, it is clear that the government is taking

this issue seriously and balancing economic growth with inflationary pressure will be a key challenge for policy-makers going forward, they said. 21. Vidya Bala in her study Indias inflation pressures among most acute in Asia (2012) observes statistically how food inflation in India is not very well correlated with global food price development. More specifically, the price of proteins, led by rising incomes, which in turn has been further accelerated by government policies particularly the NREGA has led to stepped up level of demand for proteins. Given that food is about a quarter in the WPI index, this has been a very significant determinant she concludes that the average food inflation rate in the last four years has been close to 9 per cent, whereas earlier in the last decade, that is the 5-10 years before the global financial crisis, food price inflation was running more along the lines of 4-5 per cent, largely in line with the RBI's aspirations for overall inflation. 22. The study RBI has jumped the gun'' (2012) by [Link] finds fault with the RBI for slashing interest rates by 50 basis points and points to the real threat' of a resurgent inflation. The ground realities do not reflect the possibilities of such a situation. If banks concentrate on raising deposits and lending in March, it need not be interpreted as window-dressing' but as an attempt to raise the performance level to present a better balance-sheet for the year. Being the financial year end, the efforts may also relate to reducing income-tax liabilities by some. 23. A research project on a study of financial performance of the IOCL Mathura (2012) by Sarita Sharma analyses the financial performance of IOCL for 10 years and brings out the change in the companys performance. Ratio analysis and trend analysis are used as the main tools for analysis. The project analyses not only the financial performance of the company but also acts as a window to the internal policies and procedures of the company. The project concludes that the increase in

the companys profits and turnover over the years is mainly due to the inflationary trends and also the opening of the new branches to diversify their market.

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