---
title: "Short note: Inflation and CPI"
subject: "Engineering Economics"
chapter: 8
key: "semester_6/engineering_economics:short-note-inflation-cpi"
source: https://www.bctengineer.com/q/semester_6/engineering_economics/short-note-inflation-cpi
site: BCT Engineering
---

# Short note: Inflation and CPI

Engineering Economics · Chapter 8: Inflation and Its Impact on Project Cashflows

- Asked in: 2069 Poush
- Video: [How to Calculate the Consumer Price Index (CPI) and Inflation Rate](https://www.youtube.com/watch?v=6xJe_oJybDs) — Economics in Many Lessons
- Answer checked by Claude Opus 5.5 (high effort) on 2026-10-14
- Page: https://www.bctengineer.com/q/semester_6/engineering_economics/short-note-inflation-cpi
- Whole chapter: https://www.bctengineer.com/md/semester_6/engineering_economics/chapter-8

## Question

Write a short note on inflation and CPI.

## Short answer

Inflation is a persistent increase in general prices, reducing purchasing power. CPI tracks the cost of a fixed consumer basket; the inflation rate is the percentage change in CPI. Causes include demand-pull, cost-push, and money supply growth.

## Answer

**Inflation** is a sustained increase in the general level of prices of goods and services in an economy, which reduces the purchasing power of money. If the inflation rate is f per year, an item costing C today costs C(1 + f)^n after n years.

#### Causes
- **Demand-pull:** too much money chasing too few goods.
- **Cost-push:** rises in wages, fuel, raw material and import prices.
- Increase in money supply, exchange-rate depreciation and supply shortages. In Nepal, prices are strongly affected by Indian prices because of the open border and the peg of the Nepali rupee to the Indian rupee.

#### Effects
Falling purchasing power of savings, higher interest rates, rising project costs, redistribution of wealth between debtors and creditors, and uncertain long-term planning. In economic analysis, cash flows must be adjusted using actual or constant dollars.

#### Consumer Price Index (CPI)
CPI measures the change in the cost of a fixed basket of goods and services bought by a typical household (food, housing, clothing, transport, health and so on), compared with a base year.
```text
CPI (year n) = (Cost of the basket in year n / Cost of the basket in base year) × 100
Inflation rate f = (CPI_n − CPI_(n−1)) / CPI_(n−1)
```
Example: if the basket cost Rs 10,000 in the base year and costs Rs 12,500 now, CPI = 125, a 25% rise over the period. In Nepal, the Nepal Rastra Bank compiles and publishes the national CPI and the inflation rate, which are used to judge price changes and to convert cash flows between actual and constant dollars.

## Check yourself

The answer's key points as multiple-choice questions, with the correct option and why.

1. If the inflation rate is f per year, what does an item costing C today cost after n years?
   A. C(1 - f)^n
   B. C + nf
   C. C(1 + f)^n
   D. C/(1 + f)^n
   Answer: C. Prices compound upward at f per year. (Key point: Inflation effect)

2. Which is an example of cost-push inflation?
   A. Too much money chasing too few goods
   B. Rise in wages, fuel and raw material prices
   C. Fall in government spending
   D. Increase in savings
   Answer: B. Cost-push inflation arises from rising input costs; demand-pull is too much money chasing too few goods. (Key point: Causes)

3. If a basket cost Rs 10,000 in the base year and Rs 12,500 now, what is the CPI?
   A. 25
   B. 80
   C. 112.5
   D. 125
   Answer: D. CPI = 12,500/10,000 x 100 = 125, a 25% rise. (Key point: CPI)