If you follow the economic news you will probably have heard the word inflation, used many times; it has also become part of our everyday vocabulary. Despite the fact that most of us will be familiar with the word, we may be a bit unclear about exactly what this is or what causes it to happen. This is a topic that is much debated and of great concern to economists, politicians, business owners, investors, and others. It is something that may be of concern to everyone as inflation can impact us all in one way or another.
What is Inflation?
In its basic terms inflation refers to the situation when prices rise thus creating a condition whereby the purchasing power of those in a society falls. If you are earning an x amount every month you will be able to buy a certain number of products, but if the prices of these products goes up you will be able to buy less out of your earnings. Economists will have pre-determined numbers in mind for the overall price of products and if there is an increase beyond these percentages the situation will be described as inflation.
Inflation is usually viewed negatively and there can be a sense of panic when it gets out of hand. Governments around the world are always taking measures to control inflation. If inflation is allowed to take hold it can mean that wages need to rise, and this will further increase the price of products. Inflation will mean that a country’s exports become less competitive abroad as they are now worth less than they used to be. Uncontrolled inflation makes it hard for everyone to plan for the future, and there may be a sense of doom.
What Causes Inflation?
There have been a number of different factors which have been blamed for causing inflation including:
- Demand pull is a situation where inflation has been caused due to the government producing too much money. The government may be trying to stimulate the economy by injecting a lot of money; perhaps by increasing their spending on social services. This sudden extra money then causes the prices of things to rise to keep up with the increase.
- An increase in the cost of production will also lead to inflation. If it costs more to buy materials or workers demand higher wages this can lead to the final cost of products increasing in order to make up the loss. This means that while workers might benefit from higher wages they will later lose out because they are paying more as customers.
- If a government raises taxes too high this may also lead to inflation as the business owners attempt to pass on the increase to their customers.
- If the country has a lot of debt then this could also lead to a situation of inflation as it can lead to a situation where public services need to increase in price.
- An unfavorable foreign exchange rate can also lead to a situation where inflation takes hold.