Inflation is a rate which measures the increase of prices in goods and services in an economy. Over time, this rate leads to a decline in purchasing power due to the increase in prices.
This rate shows that as the prices of goods and services increase, the value of a currency decreases. Meaning, that the value of goods and services have a nonlinear relationship with currency value.
Many investors have argued about whether inflation is positive or negative thing for the economy. Let’s discuss further discuss what the pros and cons of inflation can be.
How Does Inflation Work?
When the value of cash starts decreasing, investors start to hold onto their cash and assets. Some of these assets, include properties and commodities which can all be affected by inflation due to price fluctuations.
When consumers and investors stop spending and investing, this has a negative impact on the economy. That is why when these price fluctuations happen, many want to encourage these consumer to start spending again in order to stimulate the economy.
Inflation can be used to measure the overall price change for a variety of products in various industries. In order to, have a strong economy you need to have affordable products for consumers. We all need affordable services, such as transportation, healthcare, food, and insurance, to be able to live a comfortable life. But, when prices go up and the value of cash decreases, this only leads to people purchasing fewer goods. This hurts businesses, consumers, and halts any potential economic growth.
Also, inflation is calculated within indexes such as the Wholesale Price Index (WPI) and the Consumer Price Index (CPI) to gauge the fluctuations of prices.
Example of Inflation
An example would be if the value of currency in an economy continues to decrease, leading to a loss of purchasing power for consumers. This will negatively affect consumers since it will impact the cost of living and how much goods or services can be consumed.
The central bank will try to control inflation by trying to manage money and credit in the economy. This will encourage economic growth and help keep the economy at a controlled level.
What Are the Causes of Inflation?
Inflation is caused by an increase in the supply of available money. Monetary authorities can be utilized to increase the supply of money by printing and give away money to more individuals. They can reduce the value of currency by loaning out new money within the economy.
How they can do this by giving out government bonds as reserve account credits from the banking system. As the money supply increases this only leads to a loss of purchasing power.
Hedging
Many investors will utilize stocks to hedge against inflation. Rises in the prices of stocks and shares on the stock market are affected by inflation. As more money is added into the economy this will impact the price of financial assets that are priced in currency such as stocks.
What Is Hyperinflation?
Hyperinflation refers to when the general prices within an economy rapidly start to increase. This is an accelerated inflation that will decrease the value of currency within the economy. Prices during this time are extremely high and the economy is usually spiraling out of control.
What Is Stagflation?
Stagflation occurs when inflation is very high and the economic growth is down. Due to this, unemployment continues to go up as people are losing their jobs.
Types of Inflation
The three most commonly used types of inflation would include Built- In, Cost-Push, and Demand-pull inflation.
Demand-Pull
Demand-pull is when the supply of money and credit rises. This causes an increase in consumer demands for various goods and services. This demand tends to increase faster than the economic production capacity in a country which causes an issue.
Since consumers will have more money to spend, it will cause prices to also rise. This will create a demand-supply gap which results in high prices because of the increased demand and a less available supply.
Cost-Push
Cost-push is when production process inputs cause the prices to increase. As more credits and the money supply increases this leads to their being higher prices for goods and services in the economy.
Built-In
Built-in refers to the idea that people expect that inflation will continue to rise in the future. Workers will expect to be paid more money as the prices of goods and services become less affordable. As workers receive higher wages this will increase the cost of living and goods in the economy since they are directly correlated.
Inflation vs Deflation
Deflation is when prices of goods and services are rapidly decreasing. The purchasing power of currency during this time tends to rise. Deflation prices also can fall due to increased productivity. Additionally, deflation is often associated with the contraction of the country’s money supply and credit.
Deflation refers to increasing prices and purchasing power of currency. Purchasing power will be decreasing for consumers and the prices of goods and services will be rising and will be much less affordable.
Preparing for Inflation
Financial advisors can help you understand and prepare for any economic conditions such as inflation. A financial advisor can help by keeping your assets under advisement and encourage you to build long-term financial security. You should consult a financial advisor today to help you manage and grow your wealth.