Inflation is a bad word in the economic world. People blame inflation for many things such as causing higher prices and making your local diner charge you more for your favorite breakfast and coffee. However, is this accurate? What is inflation, and what causes it?
Inflation, in the simplest of terms, is the devaluation of currency.
Every currency is only as powerful as its spending power and if that power decreases, the currency itself decreases.
There are several examples of this, famously in Germany after World War I when German currency hyper-inflated resulting in people taking wheelbarrows full of money down to the baker for a loaf of bread.
More recently, the country of Greece demonstrated inflation when its economy fell into a tailspin and their currency fell to 30,000 per US dollar.
While these examples show the extremes of inflation, most inflation is very small and relatively unnoticed.
Almost all currency undergoes slow, steady inflation through government involvement and an increase in the supply of money.
Slow inflation is the reason grandparents can talk about going down the store with a nickel and getting a bunch of candy when today you would need a dollar or two to make the same purchase.
This slow inflation often comes at one or two percent a year and is normal, even healthy, for a growing economy.
No inflation or deflation can show a lack of faith in the market and a decline in overall wealth in an economy.
Now that we know what inflation is, what causes it?
While there are many different theories, most economists agree that it boils down to the simple supple and demand principle.
This is often referred to as Demand-Pull inflation and it occurs when there is too much of a currency for too little goods.
So in Germany in 1929, the government printed more and more money in order to get out of its numerous debts due to the Geneva convention.
While this may have seemed to help the government with its creditors, it resulted in German citizens current funds being extremely devalued.
Because money was being printed in excess its worth dropped and ordinary purchases such as eggs or bread costs thousands of times what they cost even weeks before.
When a currency decreases in value, it results in inflation.
Inflation is a natural effect of currency changes in an economy.
It occurs when a currency decreases in value, resulting in a loss in purchasing power.
While it can seem like a negative effect, it often is balanced out by an increase in wages resulting in individuals’ wealth and general purchasing power remaining the same.
It is important for people to be aware of what causes inflation so that they can hold their governments in check so they don’t cause hyperinflation which can cause an entire economy to collapse.
By David Kirk