Economics Blog 5

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Economics Blog 5

Inflation is a big problem in many countries in the world at the moment. Inflation is defined as a sustained increase in the costs of goods and services in an economy over a period as stated by Frisch (1980). The main cause in any country is an increase in the money supply in the economy. Mostly this injection of currency is caused by the government making more money than it is supposed. Many third world countries mainly face this problem because of the large debts they owe the developed countries. In their effort to clear these debts, they end up printing more currency that leads to this problem. Gordon (2012) identified three main types of inflation. One is demand-pull inflation where there is an increased demand of goods and services caused by increased government and private spending. The second is cost-push inflation due to reduced supply of outputs caused by either natural disasters or increase in price of inputs. Lastly, we have built-on inflation caused by adaptive expectations where if it is workers they try to keep their wages up with the prices.

It has both negative and positive effects in the economy. Negative effects include uncertainty of future inflation, and this ends up discouraging potential savings and investments. Another one is shortage of goods as the consumers start hoarding goods with the hope of increase in the future price. It is also associated with cost-push inflation, hyperinflation, unemployment and social unrest and revolts. Positive effects are making sure that central banks adjust real interest rates and encouraging investment projects that require non-monetary capital. Room for maneuver is created, and central banks start setting discount rates at which commercial banks borrow money. Government of any country facing this problem should try to control it. Governments and central banks use monetary policy, fixed exchange rates, gold standards, wage and price controls and stimulating economic growth as measures to control inflation.

References

Frisch,H.(1980).Theories of Inflation: Definitions and Measurement.(3rd Edition).PP,10.New York, NY: Press Syndicate of the University of Cambridge.a

Gordon, R, J. (2012). Macroeconomics: Theory and Policy, (12th Edition).Boston: Addison-Wesley Publisher.