What Causes Inflation?

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Inflation has many causes according to the experts. Although experts can’t agree completely on what the exact causes of inflation really are, most of them agree that inflation is due to either quality and/or quantity. The quality theory of inflation says that a person who earns money will be able to use that money to buy the good he wants. The quantity theory of inflation says that money should be viewed in how much of it is supplied and exchanged.

The three most common forms of inflation are demand pull inflation, cost push inflation, and built in inflation. Demand pull inflation is a result of low unemployment rates and an increased consumer demand for items. Cost push inflation happens when something that people use a lot becomes harder to get. For instance when oil is hard to get gas prices go up. Built-in inflation means that as the price of items increases, people try to increase the amount that they earn to keep up with the price of goods.

As a result of the increase in wages the employers pass along their own higher costs to the employees making it a no win situation. Some experts say that it is the amount of money that is in circulation that causes inflation by lowering the value of the money in general. Sometimes the result of having too much money in the economy can lead to such disasters as prices doubling in a short period of time. This is called hyper inflation and it usually happens during a war when a government might try to finance their own spending by printing more and more money. Another reason there might be too much money in the economy is when people stop spending money unexpectedly and drastically like what happened during the time of the black plague in Europe. Other experts insist that inflation and unemployment cannot ever be low at the same time. If unemployment is high inflation is low. And if inflation is high, unemployment is low. Therefore, some level of unemployment must be sacrificed in order to keep inflation down.

Still other experts believe that it is normal for the economy to be effected by inflation. This theory is shown by the Phillips curve which allows inflation to cycle up and down according to the shift between unemployment and inflation. Another theory of inflation uses the gross domestic product to measure the effects of inflation on the economy. This theory uses what is called potential output. This means that the state of the economy is measured against what is determined to be the best level of production for the nation. If the gross domestic product is higher than it should be and if unemployment is lower than it should be the result is that the rate of inflation will increase because suppliers will raise their prices and built in inflation will get worse.

On the other hand if the gross domestic product is lower than it should be and if unemployment is higher than it should be inflation will decrease because suppliers will not have enough goods and will have to lower their prices in order to bypass built in inflation. The biggest problem with this theory is that there is no way to really determine what the exact potential output should be and that whatever it is it probably changes a lot. Inflation causes a number of problems. People who live on limited incomes like those who are retired are going to have trouble making ends meet. The increase in inflation may cause worker’s unions to bargain for higher wages which can cause a wage spiral or the no win situation described above. And if a union goes on strike because they want higher wages there may not be enough products produced to meet the needs of the economy. And the difference between countries in regards to inflation may mean that items that are produced in one country may be too expensive for people in another country to buy.

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Source by Rebecca Stigall