Causes of Inflation

10 Key excerpts on "Causes of Inflation"

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  Textbook of Macroeconomics

  • (Author)
  • 2014(Publication Date)
  • White Word Publications

    (Publisher)

  There are three major types of inflation, as part of what Robert J. Gordon calls the triangle model: • Demand-pull inflation is caused by increases in aggregate demand due to increa-sed private and government spending, etc. Demand inflation is constructive to a faster rate of economic growth since the excess demand and favourable market conditions will stimulate investment and expansion. • Cost-push inflation , also called supply shock inflation, is caused by a drop in aggregate supply (potential output). This may be due to natural disasters, or increased prices of inputs. For example, a sudden decrease in the supply of oil, leading to increased oil prices, can cause cost-push inflation. Producers for whom oil is a part of their costs could then pass this on to consumers in the form of increased prices. • Built-in inflation is induced by adaptive expectations, and is often linked to the price/wage spiral. It involves workers trying to keep their wages up with prices (above the rate of inflation), and firms passing these higher labor costs on to their customers as higher prices, leading to a 'vicious circle'. Built-in inflation reflects events in the past, and so might be seen as hangover inflation. Demand-pull theory states that the rate of inflation accelerates whenever aggregate demand is increased beyond the ability of the economy to produce (its potential output). Hence, any factor that increases aggregate demand can cause inflation. However, in the long run, aggregate demand can be held above productive capacity only by increasing the quantity of money in circulation faster than the real growth rate of the economy. Another (although much less common) cause can be a rapid decline in the demand for money, as happened in Europe during the Black Death, or in the Japanese occupied territories just before the defeat of Japan in 1945.

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  Law and Inflation

  • Keith S. Rosenn(Author)
  • 2015(Publication Date)
  • University of Pennsylvania Press

    (Publisher)

  INFLATION'S CAUSES AND CURES The term inflation is often used loosely in English to mean anything from pomposity to increases in money, income, and profits. 1 For the pur-poses of this book, inflation is used to refer either to a sustained rise in an economy's general level of prices or to a corresponding fall in the domestic purchasing power of an economy's currency. This working definition im-plies that inflation is a dynamic process in which the aggregate level of prices is moving upward over time while the purchasing power of money is in corresponding decline. It does not mean that all prices are moving upward uniformly, nor even that all prices are moving upward. It does mean that an economy is undergoing inflation when it presently costs more to purchase a representative sample of goods than it cost in the past. Inflation and its opposite, deflation, describe changes in a nation's internal price levels or its currency's domestic purchasing power. Changes in a currency's external purchasing power occur through adjust-ments in the foreign exchange rate. When the value of country A's cur-rency declines relative to the currency of country B, there has been a devaluation of country A's currency. Correspondingly, there has been an upward revaluation in country B's currency relative to country A. In com-mon parlance references to changes in internal and external purchasing power of a currency are frequently commingled; it is not uncommon to find courts confusingly referring to devaluation when they really mean depreciation in domestic purchasing power. 2 In the long run, countries experiencing inflation rates higher than those of customary trading part-ners will be forced to devalue; however, in the short run, it is frequently possible for countries to maintain the same exchange rate despite sub-stantial domestic inflation, or to devalue by less than the inflation rate differential.

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  Principles of Macroeconomics 3e

  • David Shapiro, Daniel MacDonald, Steven A. Greenlaw(Authors)
  • 2022(Publication Date)
  • Openstax

    (Publisher)

  We have 9.5 • Indexing and Its Limitations 239 barely hinted at the Causes of Inflation, and we have not addressed government policies to deal with inflation. We will examine these issues in depth in other chapters. However, it is useful to offer a preview here. We can sum up the cause of inflation in one phrase: Too many dollars chasing too few goods. The great surges of inflation early in the twentieth century came after wars, which are a time when government spending is very high, but consumers have little to buy, because production is going to the war effort. Governments also commonly impose price controls during wartime. After the war, the price controls end and pent-up buying power surges forth, driving up inflation. Otherwise, if too few dollars are chasing too many goods, then inflation will decline or even turn into deflation. Therefore, we typically associate slowdowns in economic activity, as in major recessions and the Great Depression, with a reduction in inflation or even outright deflation. The policy implications are clear. If we are to avoid inflation, the amount of purchasing power in the economy must grow at roughly the same rate as the production of goods. Macroeconomic policies that the government can use to affect the amount of purchasing power—through taxes, spending, and regulation of interest rates and credit—can thus cause inflation to rise or reduce inflation to lower levels. Inflation in a Pandemic—A Return to the 1970s, or a Temporary Adjustment? The pandemic-induced recession caused all sorts of disruptions to our economy, including inflation. During the pandemic, the prices for goods like gas and cars fell as people shifted to remote work and canceled travel plans. But as the economy started to recover from the pandemic in early 2021, we started to see large increases in these prices. Higher prices were also fueled by the injections of cash into the economy through stimulus checks and unemployment benefits.

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  Monetary Economics

  Theories, Evidence and Policy

  • David G. Pierce, Peter J. Tysome(Authors)
  • 2014(Publication Date)
  • Butterworth-Heinemann

    (Publisher)

  Inflation Inflation is a term which has been used to mean several different things, but for the purposes of this chapter we shall define it to be a sustained rise in the general level of prices. Two points about this definition need emphasizing. First, the increase in prices must be a sustained one, and not simply a once and for all increase in prices. Second, it must be the general level of prices which is rising: increases in individual prices which are offset by falling prices are not inflationary. To people born since the start of the Second World War it may seem hard to believe that inflation is not inevitable, but there have been notable periods of falling prices in the UK during the last three hundred years. In fact the index of prices in 1913 was lower than that of 1661. During the present century, prices rose sharply during the First World War, but fell for most of the inter-war period. The Second World War again saw prices rising rapidly and, in contrast to much of the peacetime experience of the previous three hundred years, they have continued to rise ever since. The 1970s was, for the United Kingdom, the most inflationary decade of the century. The inflation of that decade was unusual moreover, not only for its severity, but also for being accompanied by historicially high levels of unemployment. Over the years many theories have been developed by economists to explain the nature and Causes of Inflation and various classifications have been used to group the theories together for purposes of comparison and contrast. In the 1950s and early 1960s, for example, it was common practice to distinguish between 'demand -puir and 'cost-push' explanations. This classification tried to distinguish between inflations that resulted from prices being pulled up by an excess demand for goods and services, and those that resulted from prices being pushed up by rising costs.

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  Trading Economics

  A Guide to Economic Statistics for Practitioners and Students

  • Trevor Williams, Victoria Turton(Authors)
  • 2014(Publication Date)
  • Wiley

    (Publisher)

  One consequence of this is that Monetarist economists do not believe that the rise in the cost of oil was a direct cause of the inflation of the 1970s. They argue that, when the price of oil went back down in the 1980s there was no corresponding deflation, so, therefore, they state, how can you argue that an increase in the price of oil causes inflation? What the central bank should have done was not 2 Friedman, Milton, ‘The supply of money and changes in prices and output’, 1958, in Rela-tionship of Prices to Economic Stability and Growth. 106 Trading Economics to accommodate the increase in price pressure and raise interest rates, tightening monetary policy. Keynesians argue that in a modern industrial economy, many prices are sticky downwards or downwardly inflexible, so that instead of prices for non-oil-related goods falling in this story, a supply shock would cause a recession, i.e. rising unemployment and a drop in gross domestic product (GDP). It is the costs of such a recession that most likely cause governments and central banks to allow a supply shock to result in inflation. Otherwise, in order to control the inflation being generated they would have to reduce GDP by even more and so make the recession even worse. In addition, although prices did not fall outright, the rate of price inflation eased back. If the fact that inflation is driven by a number of factors – not just supply – is taken into account, the picture changes. Demand falls back in a recession and so inflation eases; alongside that, as prices fall, so wage expectations ease as well, creating a virtuous cycle of expectations adapting to the reality of falling prices, i.e. a negative price/wage spiral: 3 ∏ t = 𝜋 t − 1 + f(Yt − 1 − Y ∗ t − 1) + Zt Demand-Pull Inflation Demand-pull inflation occurs when demand in the economy exceeds its ability to supply that demand.

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  Macroeconomics for Managers

  • Michael K. Evans(Author)
  • 2008(Publication Date)
  • Wiley-Blackwell

    (Publisher)

  Since in the past such changes have occurred in the majority of business cycles, there once was a natural tendency to say that inflation rises once the economy reaches full employ- ment. However, as the US experience of 1995–2000 has taught us, that need not be the case. The cases of hyperinflation show the linkage between growth in the money supply, large budget deficits, and higher inflation in its purest form. In all these cases where hyperinflation occurred, the overly rapid growth in the money sup- ply was originally caused by a large government deficit that was funded by sales of securities to the central bank. When excessive money supply growth and deficits were brought to an end, the inflation rate returned to normal within a few months. In recent years, many Latin American nations have discovered the ‘‘secret’’ to ending hyperinflation. Thus the inflation rate as measured by the CPI fell from 7,486% in 1990 to 7% in 1994 in Nicaragua; from 7,482% in 1990 to 11% in 1995 in Peru; from 3,076% in 1994 to 3% in 1999 in Brazil; and from 3,080% in 1989 to a near-invisible 0.2% in 1996 in Argentina. In all cases, the growth rate responded from the negative range – usually double-digit negative growth – to above-average increases. CAUSES OF AND CURES FOR INFLATION 299 CASE STUDY 8.3 200+ YEARS OF INFLATION Figure 8.14 shows four different views of inflation from 1800 to the present; no data for the CPI are available before then, and no data for manufacturing wage rates are available before 1860.

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  Remembering Inflation

  • Brigitte Granville(Author)
  • 2013(Publication Date)
  • Princeton University Press

    (Publisher)

  Milton Friedman (1968: 12) observed that “every major inflation has been produced by monetary expansion—mostly to meet the overriding demands of war which has forced the creation of money to C H A P T E R 2 34 supplement explicit taxation.” But the story does not end there. This sec-ond chapter turns to subsequent important developments in economists’ thinking on the origins of inflation. These new ideas, which first emerged in the early 1980s and were elaborated during the following two decades, demonstrated that tighter monetary policy is not a sufficient condition for controlling the rate of inflation. For this purpose of examining the roots of inflation, one-off price in-creases may be ignored. Such increases may be due to an external shock such as an increase in the price of oil or other commodities, and which for a limited period may have an effect on the price index depending on the weight of these commodities in the domestic basket used for the calcula-tion of the percentage change in the price level. An increase in VAT is an example of the several other kinds of shocks that can have a material short- term effect on “inflation” in the sense of the price index. Throughout history since the invention of money, inflation has been an elusive phenomenon. Money improved on barter both by making trading exchanges more efficient and by creating a means of savings. It also allowed exchange and saving to be easily accounted for. These attributes and the utility of money are impaired by inflation, which reduces the quantity of goods or services that can be bought with the same amount of money over a certain period of time. When money was a commodity itself, such as gold, silver, or copper, discovery of new deposits led to inflation. The monetary coinage was often debased to finance spending when taxes proved insuffi-cient to finance wars, monuments, or other projects. Such has been the im-memorial practice of spendthrift rulers and regimes of all kinds and times.

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  A Study in the Theory of Inflation

  • Bent Hansen(Author)
  • 2016(Publication Date)
  • Routledge

    (Publisher)

  CHAPTER I GENERAL SURVEY OF THE CHARACTERISTICS OF INFLATION

  1. Two main treatments of the theory of inflation

  On considering the history of theories of inflation, it is possible to distinguish two main treatments, of which the one seems to have had its origin far back in the past, while the other is only half a century old.

  The first of these is based on some form or other of the quantity theory of money, and regards an increase in the quantity of money as the cause and characteristic of inflation. According to this way of thinking, if the quantity of money increases, prices rise and inflation exists as a consequence—other things being equal. Thus inflation is regarded as actually identical with an increase in the quantity of money. Undue concentration upon the changes in the quantity of money often leads to peculiar results. For example if the state finances public works with central bank credits during a severe depression, this might be called inflation, as was done sometimes during the thirties. From the same point of view, it has also been argued that during the German hyper-inflation in 1923, there was in reality no inflation at all.1 These are just a couple of the strangest examples of what this approach to inflation theory may lead to. But even apart from that, it is generally agreed that this use of the quantity of money (in one sense or another) as the starting-point for the study of inflation has not shown itself to be very appropriate.2

  Even if this approach is very commonly taken, in economic journalism and in so-called “common-sense” argument, the discussion in more recent years has consistently stressed other aspects of inflation, and that will be done in the present study also. This does not imply a denial that changes in the quantity of money may be of important causal significance in the course of inflation: the period since the second World War has witnessed several interesting monetary reforms, which seem to have been effective to a certain degree in combating inflation, although the interrelationships have certainly been rather too complicated to be explained by a simple quantity theory of money. What matters is that we will try to find a more general approach to the theory of inflation, in which the effects of changes in the quantity of money can be incorporated if necessary as one among many other (probably more important) features of significance in the process of inflation.

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  Depression and Reconstruction

  A Study of Causes and Controls

  • Eleanor Lansing Dulles(Author)
  • 2016(Publication Date)
  • University of Pennsylvania Press Anniversary Collection

    (Publisher)

  It must be recognized always that there are many different types of causes and many factors constantly operating in active and passive fashion to bring about either an up or a down swing of business activity. Obviously, pro-duction for future use is accompanied by a considerable amount of uncertainty, and this source of error is a perma-nent characteristic of the economic system. Thus we come to what is here set forth as the first type of cause. In one sense of the word cause., changes in demand are responsible for every decline. From another angle it can be said that politi-cal forces start the movement of prices in a new direction. Sometimes it seems as if the conjuncture of a miscellaneous set of events has given the initial shove towards depression. This type of outside influence has been described under the PROBLEM OF DEFINING CAUSES 45 second group of causes. More important than these general-izations about over-all or random influences, however, is the discovery of the particular reasons in individual cases for the failure of a fairly flexible system to cancel and correct minor dislocations and restore balance. This third type is sometimes referred to here as a policy cause. These reasons must be taken pragmatically to be inconsistencies of policy and to constitute the strategic errors which can be recognized and avoided. Finally, and following close on the heels of the third type of cause, there are cumulative and accentuating tendencies, partly institutional and partly psychological, and expressed almost entirely in value changes which increase the rate of decline and bring a rapidly contagious deflation. It is probable that the great importance of understanding the changing relationships of economic phenomena over periods of time has been widely realized for only about twenty years. Before that time efforts to measure fluctuations in time were conspicuous because they were exceptional.

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  Economic Policy and Stabilization in Latin America

  • Nader Nazmi(Author)
  • 2016(Publication Date)
  • Routledge

    (Publisher)

  chapter 2 , indexation has long been an important feature of the Brazilian economy. First introduced to reduce the welfare cost of inflation, indexation later became a troubling element in propagating inflation and undermining the effectiveness of stabilization programs in Brazil. As a result, four heterodox disinflation plans that were implemented in the 1986-90 period sought to rid the economy of formal indexation. In each case, despite the temporary removal of indexation, inflation returned because its underlying causes (read disequilibrium in internal and external accounts) were largely intact.

  Conclusion

  In this chapter we have examined the current theoretical frameworks for identifying the causes of and the remedies for inflation in Latin America. We have also addressed the question of costs of inflation.

  From a theoretical perspective, the neostructuralist framework lacks the secure micro foundations upon which the new classical approach is constructed and is devoid of the sophisticated formal analysis and rich empirical support associated with monetarism. Nevertheless, neostructuralism has had a lasting and influential, albeit not always productive, impact in Latin America. Following the prescriptions offered by the neostructuralists, in the second half of the 1980s Argentina and Brazil adopted various heterodox stabilization programs. These programs are examined in detail in chapters 2 and 5 . Here it suffices to mention that these programs uniformly failed in their quest to bring inflation under control.

  The inertialists assume that the practice of markup pricing, caused by the oligopolistic nature of production in Brazil, is one of institutional factors responsible for the inertial nature of Brazilian inflation. In the environment of high inflation, it is easy to misconstrue markup pricing, which is a symptom of high inflation, as a cause of inflation. As discussed above, higher inflation is suspected of causing increased relative price variability and price uncertainty. To protect themselves from losses from inflation, producers may resort to markup pricing that adjusts their prices for previous-period inflation as well as expected inflation. This can happen even in highly competitive markets because for consumers the cost of obtaining information about various vendors' prices becomes very high.

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