How Inflation Can Impact Our Economy

Blurb:

I’m sure most of you have heard of the term inflation before. But do you know how inflation really plays a role in our economy? In this post we go over the basics of inflation, the different types of inflation, and how it can impact our economy. Continue reading to learn about a vital contributor to our economy.

What is inflation? 

Inflation is when the general prices of goods and services increase. And as the general price increases, each unit of currency is worth less and less in terms of purchasing. This means that the value of one unit of currency goes down since more money is needed to purchase goods and services. And one unit of currency will be able to purchase fewer goods than before inflation occurred. The amount of goods a unit of currency can purchase is called purchasing power. The more it can purchase, the higher its purchasing power and vice versa. 

There are three causes of inflation:

Demand-Pull Inflation: 

This type of inflation occurs when more money is available to individuals, through credit or increase in money supplied. With more money, demand for goods increases since more people are willing and able to pay for goods and services. But if there is a surge in demand that cannot keep up with the production and supply of goods, it will cause inflation 

Cost-Push Inflation: 

This type of inflation occurs when the overall prices of goods and services go up due to the increase in raw material or wages. And these typically increase in price due to supply shortages which are due to increased consumer demand for these goods or services. 

Built-In Inflation: 

This type of inflation occurs when workers demand more wages due to the increasing prices of products. However, this further increases the cost of production which leads to a higher cost of living. 

How does this impact the economy?

The effects of inflation are individual to the level of inflation taking place. If the inflation is really high, also known as hyperinflation, there will be different impacts economically than if inflation was low. 

Hyperinflation occurs when the economy has been inflated for a long time. Hyperinflation will cause the prices of goods to be higher which results in individuals and businesses paying more for those goods. One effect of this is people buying more goods in bulk so they don’t have to buy a lot constantly. This can result in shortages, especially when perishable food items are bought at bulk. Another result is the government increasing interest rates too quickly which can lead to recessions and unemployment. 

Interest rate is the amount a lender charges the borrower for using their money. Interest rate and inflation are indirectly proportional. This means as the interest rate increases, deflation will decrease and vice versa. If interest rates are high, the economy will inevitably slow down due to the decrease in demands for goods. This will also increase inflation since the production and supply of goods will have a chance to keep up with the demand. 

Interesting Statistics about Inflation?

• The dollar has lost 21% of its purchasing power in the last decade. 

• In 1930, the average home cost $3,845.00. In 2013, the average home cost $289,500.

• The annual rate of inflation in the United States hit 6.2%, the highest in more than 3 decades

• Inflation played a role in the fall of Rome.