In economics, inflation can be described as a sustained increase in the prices of goods and services in an economy over a period of time. The more the prices rise, the more money loses its value as citizens are able to buy fewer and fewer goods and services.
Generally, there are two causes of inflation which we will look at below.
The first is demand-pull inflation
This is the most common type of inflation which comes as a result of an increase in the demand for goods or services to an extent that this increase goes beyond supply. This usually gives sellers the opportunity to take full advantage of the laws of supply and demand by increasing the prices of goods or services thereby creating inflation.
There are a number of factors that will bring about demand-pull inflation. These include:
1 A growing economy: When an economy grows, a large percentage of the citizenryalways end up having more money to spend thereby creating more demand for goods and services, than the market can supply.
2 The Federal Reserve: As a way of managing the public’s expectations with regards to inflation, the Federal Reserve will set inflation at a certain percentage as a way of protecting consumers from the seasonal increases in the price of goods and services.
3 Discretionary fiscal policy:The government usually has the discretion of spending more or taxing less and this will result in an increase in demand incertain sectors of the economy.
4 Marketing and new technology:In this technology driven world, the desire by large sections of the population to acquire new technologies which have been marketed as must-haves results in a huge increase in demand which brings about inflation.
The second is cost-push inflation
This type of inflation will only occurwhen there exists a supply shortage which comes in combination with sufficient demand that allowsproducers of good or services to raise their prices. The factors that cause cost-push inflation include:
1 Wage inflation:This means an increase in salaries which is very rare in an economy unless there are very active labor unions.
2 Monopoly: When there exists a company that has the ability to create a monopoly in the market then it creates a cost-push inflation. However this was outlawed by the Sherman Anti-Trust Act of 1890.
3 Natural disasters:When disasters occur that damage production facilities then this results in a temporary cost-push inflation.
4 Government regulation and taxation:In some situations, government interventions through regulation and taxation will impact the market in a way that results in inflation.
This may sound like a little bit jargon especially for people not familiar with economics but it becomes pretty easy stuff when you get a grasp of it.