Inflation is a sustained increase in the general price of goods and services in an economy. In other words, inflation reflects a decrease in the purchasing power of money – a rise in prices in terms of money.
The Main Causes of Inflation
The leading causes of inflation are either too much money chasing too few goods or increasing import prices.
1) Too Much Money Chasing Too Few Goods
When there is more money in the economy than goods and services available for purchase, prices will increase as people compete for limited resources. This type of inflation is known as demand-pull inflation.
2) Import Prices Increasing
When the cost of imported goods and services increases, this can lead to inflation as businesses pass on these higher costs to consumers in the form of higher prices. This type of inflation is known as cost-push inflation.
While inflation can have some benefits, such as stimulating economic growth, it can also harm an economy. High inflation can lead to a decrease in the value of money and an increase in interest rates and unemployment.
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What Are the Effects of Inflation?
Inflation has several different effects on an economy:
1) It Reduces the Value of Money
As prices go up, each currency unit buys fewer goods and services. This is known as depreciation or deflation of money.
2) It Leads to an Increase in Interest Rates
As inflation reduces the purchasing power of money, people will tend to save more and spend less. This will lead to a rise in interest rates as businesses try to attract customers with higher returns on their savings.
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3) It Increases Unemployment
As businesses pass on higher costs to consumers through higher prices, people will have less money to spend. This can lead to a decrease in demand for goods and services and an increase in unemployment.
How Inflation Is Calculated
To calculate inflation, statisticians take a representative sample of goods and services and track price changes over time. Statisticians use this data to calculate an inflation rate, which measures how much prices have changed over a given period. In order to produce an accurate figure, statisticians calculate the inflation rate annually.
The inflation rate is usually expressed as a percentage and calculated by statisticians using the following formula:
Inflation Rate = [(Price of Goods and Services in Current Year – Price of Goods and Services in Previous Year) / Price of Goods and Services in Previous Year] x 100
For example, if the price of goods and services in 2018 were 10% higher than in 2017, the inflation rate would be 10%.
Ways To Protect Yourself From Inflation
There are a few ways to protect yourself from inflation.
- Save your money in a stable currency like the US dollar or the Japanese yen.
- Invest in assets not tied to the general level of prices, such as gold or real estate.
- Keep your expenses low and live within your means.
- Save for retirement in a way that protects you from inflation, such as by investing in inflation-protected securities.
Inflation can have a range of effects on individuals and economies, both positive and negative. While there are some ways to protect yourself from the harmful aspects of inflation, it is crucial to be mindful of how it can impact your life. It is also vital to stay up-to-date on current inflation rates to make informed decisions about your finances.
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