Inflation has several consequences. Inflation is an increase in the average price level of goods/services within a nation over a period of time. Inflation means that the nation’s currency value decreases (too much money is printed, etc.). When a country has an inflation greater than 3%, then it has a bad impact on the economy. A loss of purchasing power occurs when inflation is too high. This is when the income of a household stays the same, but the prices of goods/services rise (due to inflation). This actually means that the people of the households are getting poorer, because inflation means that the value of the currency decreases, so for the income to stay the same amount means that it is actually becoming worth less. People are not able to buy as much, as prices of goods/services go up, and so it leads to lower purchasing power. Even if the household’s nominal income increases, if the inflation rate is higher than the increase of the income, then there is still a loss in purchasing power (as the price of goods increase more in proportion to income). Another consequence is that there is are lower real interest rates for savers. People who save on fixed-interest assets such as government bonds and savings accounts are getting less money. This is because the real interest rates are decreasing when inflation increases, since the money that is earned through interest rates is depreciating with inflation (since inflation means that the value of a currency is decreasing). There are also higher nominal interest rates for borrowers. When there is high inflation, banks will raise the nominal interest rates when charging borrowers, because the value of the currency is depreciating, and so to keep interest rates in proportion to inflation rates, they will charge higher for expected future inflation rates, and add a premium charge (as the currency may keep on lowering in value). Reduction of international competitiveness can also be see as a consequence of inflation. High inflation increases the average price level of goods/services, and so foreigners will find the exports from countries with high inflation unattractive when compared to cheaper exports, or their own imports. This will upset a country’s trade balance towards a deficit (amount where expenses exceed imports). This causes the aggregate demand to shift left [see below] (as demand for many goods that are experiencing higher price levels are less demanded compared to other cheaper exports), and also cause an increase in unemployment in export industries.
Inflation has several consequences. Inflation is an increase in the average price level of goods/services within a nation over a period of time. Inflation means that the nation’s currency value decreases (too much money is printed, etc.). When a country has an inflation greater than 3%, then it has a bad impact on the economy. A loss of purchasing power occurs when inflation is too high. This is when the income of a household stays the same, but the prices of goods/services rise (due to inflation). This actually means that the people of the households are getting poorer, because inflation means that the value of the currency decreases, so for the income to stay the same amount means that it is actually becoming worth less. People are not able to buy as much, as prices of goods/services go up, and so it leads to lower purchasing power. Even if the household’s nominal income increases, if the inflation rate is higher than the increase of the income, then there is still a loss in purchasing power (as the price of goods increase more in proportion to income). Another consequence is that there is are lower real interest rates for savers. People who save on fixed-interest assets such as government bonds and savings accounts are getting less money. This is because the real interest rates are decreasing when inflation increases, since the money that is earned through interest rates is depreciating with inflation (since inflation means that the value of a currency is decreasing). There are also higher nominal interest rates for borrowers. When there is high inflation, banks will raise the nominal interest rates when charging borrowers, because the value of the currency is depreciating, and so to keep interest rates in proportion to inflation rates, they will charge higher for expected future inflation rates, and add a premium charge (as the currency may keep on lowering in value). Reduction of international competitiveness can also be see as a consequence of inflation. High inflation increases the average price level of goods/services, and so foreigners will find the exports from countries with high inflation unattractive when compared to cheaper exports, or their own imports. This will upset a country’s trade balance towards a deficit (amount where expenses exceed imports). This causes the aggregate demand to shift left [see below] (as demand for many goods that are experiencing higher price levels are less demanded compared to other cheaper exports), and also cause an increase in unemployment in export industries.
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