The Pain of Inflation

Inflation is as brutal as robbers, as horrible as armed robbers, and as deadly as killers.

– Ronald Reagan was president of the United States from 1980 to 1988.

No one likes rising prices. Many people are annoyed that they are forced to pay more money from their wallets to buy the same amount of products. This is what most of us understand about inflation. However, inflation is far from only referring to the prices of shops. It also includes many other things besides consumer goods, such as wholesalers, real estate and even assets such as salaries.

For economists, inflation is continuously rising in the overall price level. The one-off surge in bread prices is bad news for some families, but it cannot be considered inflation unless it keeps rising and drives other prices up.

The prices of different goods and services either rise or fall ( although mainly rise ) at any point in time. Therefore, inflation can be understood as the average increase of all prices in an economy during a specific period of time.

Inflation is a continuous rise in the overall price level.

Inflation index is very important in economics. It sends a signal to show how the economy is performing. If the inflation rate is too high, it may indicate that the economy is overheating. If inflation is very low or even negative, that is, prices are on a downward trend, this may indicate a recession or even a recession.

The best result is that inflation is neither too hot nor too cold and remains at the right level – this is what many people are keen to talk about as the ” Goldilocks Economy”, which is based on the name of a famous fairy tale. This is also why the government and the central bank continue to monitor inflation and pay attention to its trend.

What is inflation

Inflation is a bit like art, most people only realize it when they see it, that is, when prices rise. Prices have been rising and falling all the time. For example, shops sometimes offer special merchandise, or a sudden downpour makes the prices of umbrellas in tourist attractions rise rapidly.

But for economists, inflation is more specific. Inflation is a sustained rise in the average price level in the overall economy, which reduces the purchasing power of money in people’s pockets. For example, the price of bread has doubled, but economists will not ” see” any inflation if prices in the overall economy do not rise with it. Like GDP, inflation is generally measured on an annual basis.

Measure inflation

In order to track inflation, we must first measure it. Just as we measure economic growth, inflation is measured by more than one method. The most common measure is to track the goods and services purchased by families in shops or online.

There are two measures in Britain. One is the Retail Price Index ( RPI ) and the other is the Consumer Price Index ( CPI ). For many years, the traditional measure has been the retail price index. The index is still used by the British government to raise the annual national basic pension.

Since 2003, the official measure monitored by the Bank of England has been changed to the Consumer Price Index, which has also been adopted by other EU member states. This standard is used to increase state benefits, tax credits and public pensions to keep pace with the cost of living.

RPI runs faster than CPI. RPI includes housing costs in China and there is a technical difference between the two measurement methods.

Government statisticians go around the country every month to collect the prices of a basket of goods and services that represent the expenses of typical households. In Britain, price collectors have to record about 120,000 prices for more than 650 goods and services. These prices are ” weighted” to ensure that they reflect the relative importance of the items in the average basket.

Excellent case

The National Bureau of Statistics revises the contents of its inflation basket every year. In 2012, it removed some commodities, such as baking plates, step stools and the cost of developing films. They were replaced by some new products, including tablets and youth novels.

Looking further ahead, 2003 was the last time that local newspaper and oven prices were included in the inflation measure. The inflation basket was first calculated in 1947, when rabbits and clothes dryers were also included in the basket. However, the commodities still kept in the basket from the beginning to the present are eggs, tea, bread, cigarettes and milk.

These are all attributed to the price increase in the previous year, whether RPI or CPI is used as the measurement standard. In Britain, CPI data are usually the most frequently reported in news reports, with the country setting an inflation target of 2% for the British government.

When the inflation rate is higher than this target, it may mean that the economy is overheating. Similarly, if the data is lower than the inflation target, it indicates that the economic development speed is lower than its development speed.

What is the cause of inflation?

Inflation will occur when commercial prices rise. So what prompted them to do so? There is a very important point to remember. Prices are determined by the level of demand in an economy, that is, by how many people are willing to buy a certain commodity and the quantity of supply or the quantity that can be produced.

Strong demand will push up prices, which will rise unless new supplies enter to meet this demand. Similarly, a sudden drop in supply will also push up prices, as people have to snap up smaller quantities of goods in the market. On the other hand, the trend of development is lower prices.

There are a series of reasons expressed by special terms, which in the final analysis reflect people’s response to changes in the economic situation. When the growth rate of demand is higher than that of supply, inflation will occur, which is called ” demand – driven” inflation.

This does not answer the question of why demand is growing. There are many possible reasons, but most of them express the traditional theory that ” too much money pursues too few goods”.

Inflation occurs when the growth rate of demand is higher than that of supply.

( 1 ) Accelerating economic development

( 2 ) the expansion of government spending

( 3 ) inflation expectations

( 4 ) scientific and technological innovation

Excellent case

The prices of businessmen can be lowered without triggering any wider economic turmoil. The best example is scientific and technological products, the price of which will not only drop, but also the price of new products may drop more than that of old products. A price poll conducted at the end of U.S. President Obama’s first term showed that during his four years in office, the price of food purchased from stores rose by 6%, while the price of TV shopping fell by 57%.

Why do we need inflation

If inflation is as frightening as a monster, why don’t people eradicate it completely and stabilize prices? If prices no longer rise, will the economy develop better?

This seems to be a good idea – and it is often the case in fact – but through the logical principles of economics, we will find that this is not the case. As the Bank of England stated in its promotional materials: ” We prefer moderate inflation to non-zero inflation.”

One reason is that if there is no inflation, people will no longer consume impulsively, because the value of money is the same all the year round. In fact, when prices fall, people may save up their money and wait for prices to fall even lower. And savers have to get used to the fact that their investments will not yield any returns.

Without inflation and interest rates, one of the Bank of England’s major functions during the recession, namely, the cut rate, would no longer exist. Interest rates cannot be lower than zero, because that means banks are paying people to lend. One of the measures the central bank can take during a depression is to set a real negative interest rate.

If the inflation rate is 10% and the deposit interest rate is 5%, then deposit 100 pounds for one year and you will get 105 pounds of principal and interest. However, due to inflation, the value of 105 pounds is lower than 100 pounds a year ago. This measure can encourage people to consume and pull the economy out of the doldrums. If the inflation rate is zero, then the real negative interest rate cannot be set, because the lowest interest rate can only be zero.

We prefer moderate inflation to non-zero inflation.

Similarly, if there is no inflation, workers will have to get used to their wages never rising. Although it doesn’t matter in the coming year from one perspective, because their salaries can buy as many goods as they did a year ago, it will be a huge cultural shock, because they have become accustomed to their salaries rising over time.

When there is inflation, bosses will freeze wages during the recession to cut costs before the economy recovers. If there were no wage inflation, the boss would not be able to freeze his salary. In this way, the boss will have to reduce his salary, but it will also greatly reduce the morale of existing employees and make it difficult to recruit new employees.