Inflation Definition and What It Means For Your Money
The definition of inflation is most frequently described as the increase in the prices charged for goods and services. To be more precise, this affects the price of these goods or services, but not in a good way. Further more, inflation is also the word used to describe the increases in the over all cost of living in any single economy during a set amount of time.
According to investopedia.com, due to inflation:
the purchasing power of currency is falling.
When the purchasing power of currency falls, it makes it harder for consumers to purchase items. Not everyone is able to pay the high prices of these goods due to inflation and it limits companies to customers that fall under certain demographics.
How Do You Measure Inflation?
These days, inflation is generally measured over the course of a 12 month period, by comparing the price levels of all goods included in the consumer price index. When inflation figures are released they are usually published once a month and compare the prices in the previous month with that same month the year before. For instance, comparing the rate of inflation in March 2015 with that of March 2014. So if prices on the consumer price index increased by 10% then the rate of inflation is 10%. If on the other hand the prices on the index dropped by 2% then the annual rate of deflation would actually be 2%. These figures are generally termed as being the inflation calculator.
In effect inflation has existed ever since monetary systems were developed several thousand years ago. Yet it was not fully explained until the emergence of economics as a distinct academic subject during the 18th century. However people understood the most harmful consequences of inflation and also deflation long before Adam Smith, David Hume, or David Ricardo told what either was. So people have known how high levels of inflation can lower the standard of living when they could no longer afford the essentials of life. Economic historians can make reasonable attempts at forming historical consumer price index for the countries that kept some records. These days virtually all governments record and publish inflation figures for their respective economies. Inflation and other economic performance indicator figures are gathered by other bodies like the International Monetary Fund and the World Bank.
Inflation can and does occur for a variety of reasons, and it can vary in the amount of good or harm that it does in any given economy at any given point in time. Inflation has often been given a bad press, yet in many respects it does less harm to a lot less people than sustained periods of deflation would cause. How good or bad inflation is can depend on how much individuals or groups are financially worth. Essentially the most harmful aspects of both inflation and its opposite number deflation will harm the poorest members of any economy the most. In the most extreme cases of inflation or deflation nearly every group within an economy can suffer.
For instance there was the hyperinflation that almost destroyed the German economy in 1923. That can be contrasted with the devastating deflation that affected the United States and then much of the developed world in the Wall Street Crash of 1929. It was no wonder that the massive global recession that resulted was dubbed the Great Depression. Since then the most serious global economic crash was that of 2008 – 09, which affects are still being endured by a majority of countries in the world. Such crashes certainly make GDP markers deflate markedly. They are without doubt a GDP deflator.
The severity of the latest global crash prompted differing responses from different countries. Some countries tried to stimulate their economies through increased public spending. Whilst others decided that austerity measures to reduce public expenditure were the best way to stimulate economic recovery. Austerity measures, for example in Greece, Spain, and Portugal have certainly been deeply unpopular, and their effectiveness debatable at best. Austerity measures are something that classical liberal economists and neo-liberal economists would advocate. In their eyes national governments should always strive to balance the books rather than spend their way out of a recession, or introduce pointless job creation schemes. The Great Depression led to the dominance of Keynesian economics in the Post-War period, when governments would spend extra money to prevent recessions and high levels of unemployment. Keynesian supply side economics drastically waned in importance from the late 1970’s with the greater influence of neo-liberal economists like Milton Friedman.
Economic cycles of boom and bust mean that economies can experience a few years of inflation followed by a few years of deflation. In many respects modest levels of inflation are better for any economy than high levels of inflation, and any sustained level of deflation. If there was a inflation vs deflation choice most non-economists would certainly opt for inflation as the lesser of two evils. Among economists there would a sizable minority who would favor deflation. Yet deflation, which is a sustained drop in the price of goods and services is not something that is a good thing for the people that have joined the ranks of the unemployed, or wages have been frozen as their employers cannot afford to offer pay rises. When such examples are cited the deflation definition does not seem so appealing to most people.
The rate of inflation is something that many governments take seriously, though they have to strike a balance between keeping inflation under control, having reasonable rates of growth, and not having high levels of unemployment. At times it seems that it is impossible to get the balance right, a change in one can knock the balance with the other two out completely. When Keynesian economics held sway increasing GDP growth rates and maintaining full employment took priority over keeping inflation rates as low as possible. With the abandonment of Keynesian policies the controlling of inflation was regarded as more important than full employment. The recession started by the sharp increases in oil prices in 1979 would lead to deflation in many parts of Western Europe and North America. Yet throughout much of the 1970’s these areas except for West Germany and Japan suffered from stagflation. That was the name given to higher levels of inflation, no economic growth, and unemployment rising all at the same time.
At present the majority of economies rely on modest rates of inflation for any increases in economic growth, and preventing unemployment getting too high. Despite the eclipse of Keynesian policies neo-liberalism is not dominant. However international bodies such as the European Union, NAFTA, and the World Bank that encourage governments to control inflation.