What is inflation?
Inflation refers to a broad rise in the prices of goods and services across the economy over time, eroding purchasing power for both consumers and businesses. In other words, your dollar (or whatever currency you use for purchases) will not go as far today as it did yesterday. To understand the effects of inflation, take a commonly consumed item and compare its price from one period with another. For example, in 1970, the average cup of coffee cost 25 cents; by 2019, it had climbed to $1.59. So for $5, you would have been able to buy about three cups of coffee in 2019, versus 20 cups in 1970. That’s inflation, and it isn’t limited to price spikes for any single item or service; it refers to increases in prices across a sector, such as retail or automotive—and, ultimately, a country’s economy.
Get to know and directly engage with senior McKinsey experts on inflation.
Ondrej Burkacky is a senior partner in McKinsey’s Munich office, Axel Karlsson is a senior partner in the Stockholm office, Fernando Perez is a senior partner in the Miami office, Emily Reasor is a senior partner in the Denver office, and Daniel Swan is a senior partner in the Stamford office.
In a healthy economy, annual inflation is typically in the range of two percentage points, which is what economists consider a signal of pricing stability. And there can be positive effects of inflation when it’s within range: for instance, it can stimulate spending, and thus spur demand and productivity, when the economy is slowing down and needs a boost. Conversely, when inflation begins to surpass wage growth, it can be a warning sign of a struggling economy.
Inflation affects consumers most directly, but businesses can also feel the impact. Here’s a quick explanation of the differences in how inflation affects consumers and companies:
- Households, or consumers, lose purchasing power when the prices of items they buy, such as food, utilities, and gasoline, increase.
- Companies lose purchasing power, and risk seeing their margins decline , when prices increase for inputs used in production, such as raw materials like coal and crude oil , intermediate products such as flour and steel, and finished machinery. In response, companies typically raise the prices of their products or services to offset inflation, meaning consumers absorb these price increases. For many companies, the trick is to strike a balance between raising prices to make up for input cost increases while simultaneously ensuring that they don’t rise so much that it suppresses demand, which is touched on later in this article.
How is inflation measured?
Statistical agencies measure inflation by first determining the current value of a “basket” of various goods and services consumed by households, referred to as a price index. To calculate the rate of inflation, or percentage change, over time, agencies compare the value of the index over one period to another, such as month to month, which gives a monthly rate of inflation, or year to year, which gives an annual rate of inflation.
For example, in the United States, that country’s Bureau of Labor Statistics publishes its Consumer Price Index (CPI), which measures the cost of items that urban consumers buy out of pocket. The CPI is broken down by regions and is reported for the country as a whole. The Personal Consumption Expenditures (PCE) price index —published by the US government’s Bureau of Economic Analysis—takes into account a broader range of consumers’ expenditures, including healthcare. It is also weighted by data acquired through business surveys.
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What are the main causes of inflation.
There are two primary types, or causes, of inflation:
- Demand-pull inflation occurs when the demand for goods and services in the economy exceeds the economy’s ability to produce them. For example, when demand for new cars recovered more quickly than anticipated from its sharp dip at the beginning of the COVID-19 pandemic, an intervening shortage in the supply of semiconductors made it hard for the automotive industry to keep up with this renewed demand. The subsequent shortage of new vehicles resulted in a spike in prices for new and used cars.
- Cost-push inflation occurs when the rising price of input goods and services increases the price of final goods and services. For example, commodity prices spiked sharply during the pandemic as a result of radical shifts in demand, buying patterns, cost to serve, and perceived value across sectors and value chains. To offset inflation and minimize impact on financial performance, industrial companies were forced to consider price increases that would be passed on to their end consumers.
Learn more about McKinsey's Pricing practice.
How does inflation today differ from historical inflation?
In January 2022, inflation in the United States accelerated to 7.5 percent, its highest level since February 1982, as a result of soaring energy costs , labor mismatches , and supply disruptions . But inflation is not a new phenomenon; countries have weathered inflation throughout history.
A common comparison to the current inflationary period is with that of the post–World War II era , when price controls, supply problems, and extraordinary demand fueled double-digit inflation gains—peaking at 20 percent in 1947—before subsiding at the end of the decade, according to the US Bureau of Labor Statistics. Consumption patterns today have been similarly distorted, and supply chains have been disrupted by the pandemic.
The period from the mid-1960s through the early 1980s, sometimes called “The Great Inflation,” saw some of the highest rates of inflation, with a peak of 14.8 percent in 1980. To combat this inflation, the Federal Reserve raised interest rates to nearly 20 percent. Some economists attribute this episode partially to monetary policy mistakes rather than to other purported causes, such as high oil prices. The Great Inflation signaled the need for public trust in the Federal Reserve’s ability to lessen inflationary pressures.
How does inflation affect pricing?
When inflation occurs, companies typically pay more for input materials . One way for companies to offset losses and maintain gross margins is by raising prices for consumers, but if price increases are not executed thoughtfully, companies can damage customer relationships, depress sales, and hurt margins. An exposure matrix that assesses which categories are exposed to market forces, and whether the market is inflating or deflating, can help companies make more informed decisions.
Done the right way, recovering the cost of inflation for a given product can strengthen relationships and overall margins. There are five steps companies can take to ADAPT (Adjust, Develop, Accelerate, Plan, and Track) to inflation:
- Adjust discounting and promotions and revisit other aspects of sales unrelated to the base price, such as lengthened production schedules or surcharges and delivery fees for rush or low-volume orders.
- Develop the art and science of price change . Don’t make across-the-board price changes; rather, tailor pricing actions to account for inflation exposure, customer willingness to pay, and product attributes.
- Accelerate decision making tenfold . Establish an “inflation council” that includes dedicated cross-functional, inflation-focused decision makers who can act nimbly and quickly on customer feedback.
- Plan options beyond pricing to reduce costs . Use “value engineering” to reimagine your portfolio and provide cost-reducing alternatives to price increases.
- Track execution relentlessly . Create a central supporting team to address revenue leakage and to manage performance rigorously.
Beyond pricing, a variety of commercial and technical levers can help companies deal with price increases in an inflationary market , but other sectors may require a more tailored response to pricing. In the chemicals industry, for instance, category managers contending with soaring prices of commodities can make the following five moves to save their companies money:
- Gain a full understanding of supply–market dynamics and outlook . Understand and track the elements that trigger price increases and rescind these increases once those drivers are no longer applicable.
- Ensure that suppliers can clearly articulate the impact that price increases in the market have on suppliers’ prices . In times of upward price pressure, sellers often overstate the share of raw materials in input costs, taking the opportunity to inflate their margins. Using cleansheet methodology to identify and challenge these situations is important.
- View unavoidable price increases as temporary surcharges, not the new future state . This mechanism, partly psychological in nature, is very effective in dealing with the stickiness of price increases because it shifts the burden of proof to the supplier.
- Prioritize cross-functional initiatives . When prices are high, the impact of yield improvements, waste reduction, or substitutions can be amplified. If any are available, now is the time to make them a priority.
- Work with sales to pass on price increases . Category managers work closely with finance and commercial teams to shed light on pure market effects and their impact on the prices of goods sold, while ensuring that the right arguments are advanced to pass market-price increases to customers.
Learn more about our Financial Services , Advanced Electronics , Operations , and Growth, Marketing & Sales practices.
What is the difference between inflation and deflation?
If inflation is one extreme of the pricing spectrum, deflation is the other. Deflation occurs when the overall level of prices in an economy declines and the purchasing power of currency increases. It can be driven by growth in productivity and the abundance of goods and services, by a decrease in aggregate demand, or by a decline in the supply of money and credit.
Generally, moderate deflation positively affects consumers’ pocketbooks, as they are able to purchase more with less money. However, deflation can be a sign of a weakening economy, leading to recessions and depressions. While inflation reduces purchasing power, it also reduces the value of debt. During a period of deflation, on the other hand, debt becomes more expensive. Additionally, consumers can protect themselves to an extent during periods of inflation. For instance, consumers who have allocated their money into investments can see their earnings grow faster than the rate of inflation. During episodes of deflation, however, investments, such as stocks, corporate bonds, and real-estate investments, become riskier.
A recent period of deflation in the United States occurred between 2007 and 2008, referred to by economists as the Great Recession. In December 2008, more than half of executives surveyed by McKinsey expected deflation in their countries, and 44 percent expected to decrease the size of their workforces.
When taken to their extremes, both inflation and deflation can significantly and negatively affect consumers, businesses, and investors.
For more in-depth exploration of these topics, see McKinsey’s Operations Insights collection. Learn more about Operations consulting , and check out operations-related job opportunities if you’re interested in working at McKinsey.
Articles referenced include:
- “ How business operations can respond to price increases: A CEO guide ,” March 11, 2022, Andreas Behrendt , Axel Karlsson , Tarek Kasah, and Daniel Swan
- “ Five ways to ADAPT pricing to inflation ,” February 25, 2022, Alex Abdelnour , Eric Bykowsky, Jesse Nading, Emily Reasor , and Ankit Sood
- “ How COVID-19 is reshaping supply chains ,” November 23, 2021, Knut Alicke , Ed Barriball , and Vera Trautwein
- “ Navigating the labor mismatch in US logistics and supply chains ,” December 10, 2021, Dilip Bhattacharjee , Felipe Bustamante, Andrew Curley, and Fernando Perez
- “ Coping with the auto-semiconductor shortage: Strategies for success ,” May 27, 2021, Ondrej Burkacky , Stephanie Lingemann, and Klaus Pototzky
Want to know more about inflation?
What is supply chain?
How business operations can respond to price increases: A CEO guide
Five ways to ADAPT pricing to inflation
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What Causes Inflation?
- Walter Frick
Why your money is worth less than it used to be.
What causes inflation? There is no one answer, but like so much of macroeconomics it comes down to a mix of output, money, and expectations. Supply shocks can lower an economy’s potential output, driving up prices. An increase in the money supply can stoke demand, driving up prices. And the expectation of inflation can become a self-fulfilling cycle as workers and companies demand higher wages and set higher prices.
Since the financial crisis of 2008 and the Great Recession, investors and executives have grown accustomed to a world of low interest rates and low inflation. No longer. In 2021, inflation began rising sharply in many parts of the world, and in 2022 the U.S. saw its worst inflation in decades.
- Walter Frick is a contributing editor at Harvard Business Review , where he was formerly a senior editor and deputy editor of HBR.org. He is the founder of Nonrival , a newsletter where readers make crowdsourced predictions about economics and business. He has been an executive editor at Quartz as well as a Knight Visiting Fellow at Harvard’s Nieman Foundation for Journalism and an Assembly Fellow at Harvard’s Berkman Klein Center for Internet & Society. He has also written for The Atlantic , MIT Technology Review , The Boston Globe , and the BBC, among other publications.
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Inflation and Prices
By many objective measures, the performance of the U.S. economy in 2023 was outstanding. The sharp decline in inflation from a high of almost 9 percent in June 2022 to 3.4 percent at the end of 2023 without triggering a rise in unemployment and with continued strong economic growth has been called by one prominent economic journalist “ a miracle .” It seemed as though the U.S. economy might be on target to achieving the oft-sought but elusive “soft landing”. But until recently, there has been a disconnect between this surprisingly strong performance and the public’s views on the economy. Some of this disconnect likely reflects consumers’ continued experience of higher prices. What is the link between inflation and the prices consumers experience? What might headline inflation statistics miss that affects economic well being across different groups?
It is possible to have “high” prices and low, or even zero (or negative), inflation at the same time.
- It is possible to have “high” prices and low, or even zero (or negative), inflation at the same time. In general, prices tend to increase over the long run. Using the price of a representative basket of goods purchased by urban consumers that is tracked by the Bureau of Labor Statistics, the Consumer Price Index (CPI-U), prices have more than tripled over the past 40 years: The reported index number equal to 100 for the average value of prices between 1982 and 1984 was 306.7 in December 2023. Inflation is the rate of change in prices over a given period of time. In its mandate to keep prices stable, the Federal Reserve does not aim for zero inflation, as an inflation rate that is too low can also be problematic for a national economy. Since 2012, the Federal Reserve has set an explicit target inflation rate of 2 percent. But inflation rose well above the Fed’s target following the COVID pandemic, reaching a high of around 9% in June of 2022. As a result, by December 2023 consumers were seeing prices that were on average about 19% higher than they were before the pandemic in December 2019, as measured using the CPI-U. However, the rate of increase of prices had slowed dramatically to 3.4% by December of 2023.
- The inflation rates for particular categories of goods and services can be, and often are, quite different from the overall headline inflation rate. The headline inflation rate is the weighted average of price changes of a wide set of goods and services, with the weights representing the relative proportion of expenditures spent on each category. The twelve-month inflation rates in December 2023 range from -14.7 percent for fuel oil to 20.3 percent for Motor Vehicle Insurance. Over this period, energy prices fell 2 percent (weight of 0.067), food prices rose 2.7 percent (weight of 0.13), and all items less food and energy, so-called core inflation, rose 3.9 percent (the weight of these core items in headline inflation is the remaining 0.80).
- What matters most for consumers is how the changes in prices affect their overall purchasing power. Different groups of consumers purchase different sets of goods and, therefore, face different inflation rates and price levels. The different inflation rates for different categories of goods and services mean that the reduction in purchasing power from inflation can differ widely across groups of people since people’s patterns of purchases vary depending upon a range of factors. For example, people who live in rural areas typically need to drive longer distances than urban dwellers, so gasoline prices make up a bigger part of their overall expenditures. Notably, the typical pattern of expenditures of poorer people differs markedly from richer people, with a higher proportion of spending by the poor on food and shelter. Furthermore, prices can differ across locations for the same types of goods, and where you shop can be as important as what you buy in terms of the prices you face. Consequently, there have been calls for developing price indexes by subgroups, for example, across the income distribution. The Committee on National Statistics of the National Academies of Sciences, Engineering, and Medicine recommends that the development of income-based price indexes should be a “high priority” for the Bureau of Labor Statistics. (p. 151)
- While the impact of inflation varies for consumers depending on their characteristics and the mix of goods they purchase, comparing a standardized basket of goods over a set period of time allows economists to gauge the state of price changes. Monthly inflation is typically reported at an annual rate by comparing prices in one month to prices twelve months before. Reported in this format, the inflation rate at a given point in time can provide information on whether production is in line with demand (as well as how consumers expect prices to behave going forward). When inflation rates are given for different lengths of time, it makes it more difficult to make these comparisons. For instance, in October 2023, a statement from House Budget Committee Chairman Jodey Arrington (R-TX) and a report from the Heritage Foundation noted that prices had risen by 17 percent since January 2021. The 17.1 percent inflation rate reported by Congressman Arrington and the Heritage Foundation is the percentage change over 31 months. The average inflation rate over this period was 6.3 percent. But this average masks large changes in the rate of change in prices between the beginning of 2021 and the end of 2023; from 7.6 percent over the January 2021 to January 2022 period, to 8.9 percent in the twelve months ending in June 2022, but subsequently below 4 percent at an annual rate in each month after May 2023.
- Wages, as well as prices, tend to rise over time. The relevant statistic for considering the change in people’s purchasing power is not inflation itself but the percentage rise in wages relative to the inflation rate. The Federal Reserve Bank of Atlanta calculates a wage growth tracker for overall median wages as well as for median wages by different levels of educational attainment, full-time or part-time workers, men and women, hourly workers, and workers in service industries. While inflation exceeded wage growth from the beginning of 2021 to the end of 2022, the period since then has seen wage growth higher than inflation (see chart). The increase in median wages was 16.2 percent over the period 2021 to 2023, roughly corresponding to the period of a 17.1 percent increase in prices cited by Representative Arrington and the Heritage Foundation. This means that the shortfall in purchasing power due to inflation was 0.9 percent.
What this Means:
When inflation is coming down, but is still positive, prices will continue to be higher, albeit at a slower rate of increase. All else equal, this would erode people’s purchasing power, but wages tend to rise with prices and living standards increase over time – one indicator of this fact is that real (price-adjusted) national income per person was $67,036 in the third quarter of 2023 (expressed in 2017 prices), six percent larger than its value of $63,227 in the first quarter of 2021. Of course, this aggregate measure does not take into account the distribution of income across different groups. Wage growth across groups varies, as does the cost of respective baskets of goods and services. This is prompting serious study of inflation across income categories and age groups, which is important for gauging relative prosperity as well as properly adjusting benefits to keep up with the cost of purchases. The good news is that inflation is coming down. This is somewhat tempered by the fact that prices are high – but for many people, wage gains soften this blow.
What’s the problem with low inflation.
by Michael Klein
The Capital Gains Tax and Inflation
by Daniel Bergstresser
Why Is Inflation so Low?
by Dan Sichel
The Problems with Low Inflation (VIDEO)
The role of automatic stabilizers in fighting recessions, why did the fed change its framework and why does it matter.
Economic essays on inflation
- Definition – Inflation – Inflation is a sustained rise in the cost of living and average price level.
- Causes Inflation – Inflation is caused by excess demand in the economy, a rise in costs of production, rapid growth in the money supply.
- Costs of Inflation – Inflation causes decline in value of savings, uncertainty, confusion and can lead to lower investment.
- Problems measuring inflation – why it can be hard to measure inflation with changing goods.
- Different types of inflation – cost-push inflation, demand-pull inflation, wage-price spiral,
- How to solve inflation . Policies to reduce inflation, including monetary policy, fiscal policy and supply-side policies.
- Trade off between inflation and unemployment . Is there a trade-off between the two, as Phillips Curve suggests?
- The relationship between inflation and the exchange rate – Why high inflation can lead to a depreciation in the exchange rate.
- What should the inflation target be? – Why do government typically target inflation of 2%
- Deflation – why falling prices can lead to negative economic growth.
- Monetarist Theory – Monetarist theory of inflation emphasises the role of the money supply.
- Criticisms of Monetarism – A look at whether the monetarist theory holds up to real-world scenarios.
- Money Supply – What the money supply is.
- Can we have economic growth without inflation?
- Predicting inflation
- Link between inflation and interest rates
- Should low inflation be the primary macroeconomic objective?
See also notes on Unemployment
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Historical Parallels to Today’s Inflationary Episode
By Chair Cecilia Rouse, Jeffery Zhang, and Ernie Tedeschi
Supply chain disruptions are having a substantial impact on current economic conditions. Economy-wide and retail-sector inventory-to-sales ratios have hit record lows; homebuilders are reporting shortages of key materials; and automakers do not have enough semiconductors. Elevated consumer demand is adding fuel to the fire. Travel demand, for example, has returned much more sharply than expected, which is straining airline operations . Similarly, total vehicle sales in April more than doubled from a year prior, which is leading to empty dealer lots . The combination of a spike in consumer demand and a supply chain that is not fully operational has contributed to rising prices.
In this blog post, we examine previous periods of heightened inflation and see what they can teach us about inflation in 2021. Figure 1 shows a time series of two commonly used measures of inflation: Consumer Price Index ( CPI ) and Personal Consumption Expenditures ( PCE ). Since World War II, there have been six periods in which inflation—as measured by CPI—was 5 percent or higher. This occurred in 1946–48, 1950–51, 1969–71, 1973–82, and 2008. We first present a high-level overview of each of the previous six inflationary episodes and then turn our attention to the years following World War II—an episode that has strong similarities to what is occurring in the current environment.
Six Inflationary Episodes
Episode 1: July 1946 – October 1948
Milton Friedman and Anna Jacobson Schwartz (1980) observe that World War II ushered in a period of inflation comparable to the inflationary episodes that occurred during the Civil War and World War I.  Prices also surged after World War II ended. In 1947, inflation jumped to over 20 percent, as shown in Figure 1. According to the Bureau of Labor Statistics (BLS ), the rapid post-war inflationary episode was caused by the elimination of price controls, supply shortages, and pent-up demand.
Episode 2: December 1950 – December 1951
The Korean War started in June 1950 and hostilities ceased in July 1953. Prices had been declining in the months prior to the war because of a mild recession, but rebounded with the return to wartime status . Demand jumped as households—reminded of rationing and supply shortages during World War II—rushed to purchase goods. In addition, some consumer production shifted back to military material, and price controls were reinstated. Notably, in the post-Korean War years, when price controls were removed, inflation did not jump the way it did following World War II.
Episode 3: March 1969 – January 1971
This inflationary episode was caused by a booming economy, which increased prices. From 1965 through 1969, for instance, real quarterly GDP growth averaged 4.8 percent at an annual rate. Inflation fell after President Nixon instituted a freeze on wages and prices.
Episode 4: April 1973–October 1982
In the 1970s, the United States experienced its longest stretch of heightened inflation because of two surges in oil prices. The first was caused by an oil embargo implemented by the Organization of Arab Petroleum Exporting Countries (OPEC). The second surge was caused by a decline in oil production due to the Iranian Revolution and the Iran–Iraq War. In 1979, Paul Volcker became the Chair of the Federal Reserve and began his well-known campaign of hiking interest rates to bring inflation under control.
Episode 5: April 1989–May 1991
This fifth inflationary episode occurred when Iraq invaded Kuwait, leading to the first Gulf War. The price of crude oil increased significantly due to heightened uncertainty, leading to a short bout of high inflation.
Episode 6: July 2008–August 2008
In 2008, the CPI rose above 5 percent for two months due to skyrocketing gas prices. One barrel of West Texas Intermediate crude oil cost more than $140 in July 2008 compared to $70 just a year earlier.
Pent-up demand and supply chain disruptions
The three most recent inflationary episodes were largely a function of oil shocks; in contrast, pandemic price dynamics have not been primarily driven by oil supply, though we continue to closely monitor ongoing energy price behavior. In addition, oil prices have a different relationship with the American economy than in the past, as the United States became a net annual petroleum exporter in 2020 and uses an increasing share of renewables for its energy consumption. The episode from 1969–71 is also different because the economy was growing quickly at nearly 5 percent per year for half a decade, which is not the case at present. The episode during the Korean War is a closer comparison, as households rushed to buy goods in anticipation of a supply shortage. While households are consuming more today in the aftermath of COVID due to pent-up demand, they are not hoarding in anticipation of a supply shortage. Also, while many industries face supply constraints, there is not a broad push to shift production away from consumer goods.
The period right after World War II potentially provides the most relevant case study, as the rapid post-war inflationary episode was caused by the elimination of price controls, supply shortages, and pent-up demand. Figure 2 shows the change in prices in the five years following World War II.
Not surprisingly, supplies were running low or were exhausted entirely during the war. Families had trouble buying cars and household appliances because they were essentially unavailable. According to the BLS , “[by] 1943, many durable goods, such as refrigerators and radios, were also dropped from the [CPI] as their stocks were exhausted.” Instead of focusing on consumer or industrial durable goods, manufacturing capabilities were concentrated on military production. Today’s shortage of durable goods is similar—a national crisis necessitated disrupting normal production processes. Instead of redirecting resources to support a war effort, however, manufacturing capabilities were temporarily shut down or reduced to avoid COVID contagion.
Pent-up demand also put upward pressure on prices following World War II. During the war, households were limited by the widespread rationing of consumer goods . The government rationed foods such as sugar, coffee, meat, and cheese as well as durable goods like automobiles, tires, gasoline, and shoes. Personal savings increased significantly and were spent soon after the war ended. Between 1945 and 1949, a population of roughly 140 million Americans purchased 20 million refrigerators, 21.4 million cars, and 5.5 million stoves . During COVID, businesses were shut down and households mostly stayed indoors. Expenditures on entertainment, dining at restaurants, and travel fell dramatically (from March 20–26, 2020, the entire U.S. box office made roughly $5,000 as compared to $200 million during the same week in 2019). Personal savings increased during the pandemic as well, and now retail sales are booming.
One substantial difference between the inflation dynamics of World War II and today is that price controls were a wartime policy tool that were not implemented during COVID. Those price controls reduced the price level 30 percent below what it would have been otherwise, according to Paul Evans (1982) . When the caps were lifted in 1946, prices climbed significantly. For example, food prices alone rose 13.8 percent in July after food price controls expired on June 30th.
According to Benjamin Caplan (1956) , the inflationary episode after World War II ended after two years as domestic and foreign supply chains normalized and consumer demand began to level off. (Caplan also observes that private fixed investment started to decline, which contributed to the decline in prices and caused the economy to fall into a mild recession, with real GDP declining by 1.5 percent).
The role of expectations
If actual inflation is affected by inflation expectations—and if expectations are in part formed by recent experiences (what economists call “adaptive” expectations)—then one risk is that transitory supply constraints and pent-up demand could have more persistent effects by raising longer-run expectations of inflation. On the other hand, businesses and consumers may “see through” supply disruptions and not change their longer-run expectations significantly.
The United States of 1946 did not have nearly as many ways of gauging inflation expectations as we do today, but the limited data we have suggest Americans at the time were aware of the transitory nature of their inflationary episode. The Livingston Survey of economic forecasters—begun in June 1946 by a columnist for the Philadelphia Inquirer and run today by the Federal Reserve Bank of Philadelphia—shows that forecasters expected low or even negative inflation over the 1947–1951 period (see Figure 3 below). While actual inflation often came in higher during this time—and early expectations surveys like Livingston should be interpreted with caution due to difficulties in knowing how respondents were calibrating their expectations—respondents did not appear to persistently mark up their short-run inflation forecasts due to the transitory inflation episodes of World War II and the Korean War.
Today, we have metrics measuring longer-run inflation expectations in the form of surveys and market-based measures. If transitory inflation pressures were spilling over into longer-run expectations, we would anticipate seeing these measures rise to historically high levels. However, as Figure 4 below shows, both market-based measures like the five-year, five-year inflation break-evens, and survey-based measures like the ten-year expectations in the Survey of Professional Forecasters, have broadly recovered from pandemic-lows to levels more consistent with pre-pandemic expectations.
No single historical episode is a perfect template for current events. But when looking for historical parallels, it is useful to concentrate on inflationary episodes that contained supply chain disruptions and a spike in consumer demand after a period of temporary suppression. The inflationary period after World War II is likely a better comparison for the current economic situation than the 1970s and suggests that inflation could quickly decline once supply chains are fully online and pent-up demand levels off. The CEA will continue to carefully gauge the trajectory of inflation.
 Due to limitations in comparable CPI data, our analysis begins at the end of World War II.
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'More optimistic': January CPI numbers show inflation still bugs consumers, but not as much
Inflation continues to vex the American consumer. Prices rose by 3.1% from January 2023 to January 2024, the Labor Department said Tuesday.
But not all the news was bad. And wages are catching up to inflation, giving consumers renewed confidence.
"People are becoming more optimistic about the outlook for inflation and are feeling better about it," said Mark Hamrick, senior economic analyst at Bankrate. "They're not thinking of it as sort of the burden on their back in the same way that they were."
Here's a rundown of how the January inflation report affects consumers .
Gas costs less
Gas prices dropped in January and on the year, a trend consumers have seen at the pumps.
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The gasoline index declined 3.3% from December to January and 6.4% from January 2023 to January 2024.
A lower bump for Social Security? Next year's cost-of-living adjustment could fall, leaving seniors struggling and paying more tax
Inflation in January: Price increases slowed but not as much as hoped
Tuesday’s national gas price averaged $3.225 for a gallon of regular, according to AAA . That compares with $3.416 a year ago, although pump prices have nudged up in recent weeks.
Gas prices tend to bottom out at this time of the year because people drive less.
Dining out costs more
A federal index for “food away from home” rose for the month and year, signaling that Americans are paying more for dine-in and takeout.
Away-from-home food prices rose by 0.5% from December to January and by 5.1% from January 2023 to January 2024.
Reasons include rising labor and food costs for restaurant operators, according to the National Restaurant Association.
Housing costs more
America’s “shelter” index, which means housing, continues to rise.
The shelter index rose 0.6% from December to January and 6% from January 2023 to January 2024.
Housing demand remains high , Redfin reports, with more homes selling above the list price than below it. Many homeowners don’t want to sell because interest rates have been rising.
Auto insurance costs more
Motor vehicle insurance rose by a dramatic 1.4% in January and by an even more dramatic 20.6% from January 2023 to January 2024.
The average annual insurance premium is $2,543, up 26% over last year, according to a new report from Bankrate.
If you've noticed your insurance bill creeping up, now might be a good time to shop around, said Elizabeth Renter , data analyst at NerdWallet. Auto insurance "is easy to set and forget," she said, "but when prices are rising like this, it can pay to get quotes.”
Daniel de Visé covers personal finance for USA TODAY.
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US stocks dropped and Treasury yields jumped on data that showed US inflation easing less than expected, as investors scaled back bets that the Federal Reserve will begin cutting interest rates as soon as May.
The S&P 500 index of blue-chip US stocks closed down 1.4 per cent on Tuesday. The tech-heavy Nasdaq Composite dropped by 1.8 per cent.
The market moves came after new government figures showed US inflation cooled less than expected in January, to 3.1 per cent year on year.
Following Tuesday’s release, the likelihood of a rate cut in May implied by futures markets fell from 50 per cent to 30 per cent, while the chances of a cut in March were almost fully eliminated.
The two-year Treasury yield, which moves with interest rate expectations, rose 0.18 percentage points to 4.65 per cent, its biggest one-day move since last March. The benchmark 10-year yield increased 0.14 percentage points to 4.31 per cent. Yields rise as prices fall.
The figures come as the Fed considers when to start trimming interest rates from their current level of 5.25 per cent to 5.5 per cent after a lengthy campaign to tame persistent price pressures.
“This is inconvenient data for the Fed and [any] plan to cut rates relatively soon,” said Dean Maki, chief economist at Point72 Asset Management. “I think this takes a March rate cut off the table, and it makes a May cut unlikely.”
Economists polled by Bloomberg had forecast annual consumer price inflation of 2.9 per cent, down from 3.4 per cent in December .
Core inflation , a closely watched measure that strips out volatile food and energy prices, was 3.9 per cent year on year in January, in line with the previous month.
The dramatic overall fall in inflation over the past year has prompted central bankers in the US, Europe and UK to rule out further rate increases and start discussing the possibility of cuts.
Fed chair Jay Powell said last month the Federal Open Market Committee expected to cut interest rates three times this year, but he signalled it was unlikely to begin doing so until more progress had been made towards the central bank’s 2 per cent inflation target.
“The Fed will likely need more data to feel comfortable [before cutting rates],” said Kristina Hooper, chief global market strategist at Invesco. “Progress is still happening, but is probably not happening as quickly as the Fed would like.”
US President Joe Biden said on Tuesday: “At a time when growth and employment remain strong, inflation declined by two-thirds from its peak but we know there’s still work to do to lower costs.”
The dollar, whose movements are influenced by changes in rate expectations, traded 0.6 per cent higher on the inflation data release.
Housing, vehicle insurance and medical care all contributed to January’s price pressures. Shelter, the largest component of which is rental costs, was the biggest influence on core inflation, with the index increasing 0.6 per cent in January.
Tuesday’s figures showed that while the ongoing trend of deflation in core goods continued, inflation in services remained strong, in part due to an increase in medical care costs.
The Fed’s preferred measure of inflation is the core personal consumption expenditures index, which has slowed more drastically than CPI. The core PCE index was up 2.9 per cent in January on an annual basis, the first reading of less than 3 per cent in about three years.
The Fed’s next policy meeting is scheduled for March 19-20, at which it will release its latest “dot plot” survey showing officials’ projections for interest rates, inflation and unemployment.
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Essay on Inflation
Inflation is a term that resonates through the corridors of our daily lives, affecting decisions made by individuals, businesses, and governments alike. It refers to the rate at which the general level of prices for goods and services is rising, and subsequently, purchasing power is falling. Central banks attempt to limit inflation, and avoid deflation, to keep the economy running smoothly. This essay delves into the causes of inflation, its various effects on the economy and individuals, and the strategies employed to manage it, aiming to provide a comprehensive understanding suitable for a student participating in an essay writing competition.
The Causes of Inflation
Inflation is primarily caused by two factors: demand-pull and cost-push inflation. Demand-pull inflation occurs when demand for goods and services exceeds supply, causing prices to rise. This can happen due to increased consumer spending, government expenditure, or investment. Cost-push inflation, on the other hand, happens when the cost of production increases, leading producers to raise prices to maintain their profit margins. This increase in production costs can be due to rising wages, increased taxes, or higher prices for raw materials.
- Demand-pull inflation occurs when the overall demand for goods and services in an economy exceeds its supply. This excess demand leads to rising prices as businesses raise prices to capitalize on increased consumer demand.
- Factors contributing to demand-pull inflation include robust consumer spending, increased government spending, low-interest rates, and high levels of investment.
- Cost-push inflation is driven by rising production costs, which are then passed on to consumers in the form of higher prices. These rising costs can result from various factors, such as increased wages, higher energy prices, or supply chain disruptions.
- For example, if oil prices spike, it can lead to increased transportation costs, which may cause businesses to raise prices on their products.
- Built-in inflation, also known as the wage-price spiral, occurs when workers demand higher wages to keep up with rising prices. When businesses pay higher wages, they often pass those costs on to consumers, causing prices to rise further. This cycle can continue, perpetuating inflation.
- Expectations of future inflation can also contribute to built-in inflation, as people adjust their behavior and spending patterns in anticipation of rising prices.
- The policies of central banks, such as the Federal Reserve in the United States, can influence inflation. When central banks implement loose monetary policies, such as low-interest rates and quantitative easing, it can increase the money supply and potentially lead to demand-pull inflation.
- Central banks can also use tight monetary policies, such as raising interest rates, to combat inflation and reduce spending.
- Government fiscal policies, including changes in taxation and government spending, can affect inflation. An increase in government spending without corresponding revenue sources can stimulate demand and contribute to inflation.
- Tax cuts can also increase disposable income, leading to higher consumer spending and potential demand-pull inflation.
- Exchange rate fluctuations can impact inflation by influencing the prices of imported goods. A depreciating domestic currency can make imports more expensive, contributing to cost-push inflation.
- Conversely, a strengthening currency can lower import prices and help reduce inflation.
- Unforeseen events, such as natural disasters, geopolitical tensions, or disruptions in the supply chain, can cause sudden supply shortages or surpluses. These shocks can result in sharp price movements and contribute to inflation.
- For instance, a severe drought can reduce agricultural output, leading to higher food prices.
- Global economic conditions and trends, such as changes in international commodity prices or global economic growth, can influence inflation in individual countries.
- Economic policies in major trading partners can also have spill-over effects on domestic inflation.
The Effects of Inflation
Inflation impacts various facets of the economy and society. Moderate inflation is a sign of a growing economy, but high inflation can have detrimental effects.
1. Reduced Purchasing Power: Inflation erodes the purchasing power of money, meaning consumers can buy less with the same amount of money. This reduction can impact living standards and consumer spending.
2. Income Redistribution: Inflation can act as a regressive tax, hitting harder on low-income families. Fixed-income recipients, such as pensioners, find their incomes do not stretch as far, while borrowers may benefit from repaying loans with money that is worth less.
3. Investment Uncertainty: High inflation can lead to uncertainty in the investment market. Investors become wary of long-term investments due to the unpredictability of future costs and returns.
1. Cost of Living: As the cost of goods and services increases, individuals may struggle to afford basic necessities, leading to a lower quality of life.
2. Wage-Price Spiral: Continuous inflation can lead to a wage-price spiral, where workers demand higher wages to keep up with rising prices, which in turn causes prices to rise further.
3. Access to Education and Healthcare: Rising costs can make education and healthcare less accessible to the general population, affecting long-term social and economic development.
Governments and central banks use various tools to manage inflation, aiming to maintain it at a level that promotes economic stability and growth.
The most common tool for managing inflation is monetary policy, which involves regulating the money supply and interest rates. Central banks can increase interest rates to reduce spending and borrowing, thereby slowing down the economy and reducing inflation. Conversely, lowering interest rates can stimulate spending and investment, increasing demand and potentially causing inflation.
Governments can also use fiscal policy to control inflation by adjusting spending and taxation. Reducing government spending or increasing taxes can decrease the overall demand in the economy, lowering inflation. However, these measures can be unpopular politically as they may lead to reduced public services and higher taxes.
Improving efficiency and increasing supply can also combat inflation. This can be achieved through investment in technology, deregulation, and policies aimed at increasing productivity. By increasing the supply of goods and services, prices can stabilize or even decrease.
In conclusion, Inflation is a complex phenomenon with wide-ranging effects on the economy and society. Understanding its causes and impacts is crucial for effective management and policy-making. While moderate inflation is a sign of a healthy economy, unchecked inflation can lead to significant economic and social challenges. Through a combination of monetary, fiscal, and supply-side policies, governments and central banks strive to balance inflation to ensure economic stability and growth. As students delve into the intricacies of inflation, they gain insight into the delicate balance required to manage an economy, preparing them for informed citizenship and, possibly, roles in shaping economic policy in the future.
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A Key Inflation Gauge Came In Hotter Than Expected Last Month
Overall prices cooled slightly from a year earlier, but the report included worrying signs for the Federal Reserve.
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food and energy
+3.1% in Jan.
By Jeanna Smialek
Inflation cooled less than expected in January and showed worrying staying power after volatile food and fuel costs were stripped out — a reminder that bringing price increases under control remains a fraught, bumpy process.
The overall Consumer Price Index was up 3.1 percent from a year earlier, which was down from 3.4 percent in December but more than the 2.9 percent that economists had forecast. That figure is down from the latest peak of 9.1 percent in the summer of 2022.
But after stripping out food and fuel, which bounce around in price from month to month, “core” prices held roughly steady on an annual basis, climbing 3.9 percent from a year earlier. The measure jumped by the most in eight months on a monthly basis.
American consumers, the White House and Federal Reserve officials had welcomed a recent moderation in inflation. Central bankers in particular are likely to take the fresh report as a reminder that they need to remain cautious. Policymakers have been careful to avoid declaring victory over inflation, insisting that they needed more evidence that it was coming down sustainably.
Investors sharply pared back chances for an imminent Fed rate cut in reaction the data, betting that central bankers will not lower interest rates at their next meeting in March and sharply dialing back the odds that the Fed will do so even at its meeting in May. Stock markets tumbled — closing down 1.4 percent — as traders revised their forecasts for Fed actions.
Fed policymakers have raised interest rates to about 5.3 percent, up from near zero in early 2022, in a bid to cool consumer and business demand and force companies to stop raising prices so quickly. Because inflation has been coming down notably in recent months, they have paused their rate increases and are contemplating when and how much to lower borrowing costs.
But they want to avoid cutting rates before inflation is fully snuffed out, because they worry that doing so could allow rapid price increases to become a more permanent feature of the American economy.
“They were right to be patient, because this is the kind of number that is going to cast doubt on whether there really is a lot of deceleration in store for inflation,” said Omair Sharif, founder of Inflation Insights. “This is definitely a spooky number.”
Slower inflation over recent months had also been a welcome development for President Biden. Surging living expenses have eaten away at household budgets, weighing on voter confidence even though the job market is strong and wages are climbing at a brisk pace.
Naome Dunnell, 39, an educator in Newton, N.J., said she first started to notice a big jump in food prices more than a year and a half ago. Since then, she has had to buy less at the grocery store for herself and her four children. Ms. Dunnell said she was happy that food prices were not surging anymore, but was still frustrated by the high cost of groceries.
“The relief is not really there,” Ms. Dunnell said.
That unhappiness had appeared to be on the cusp of changing at a national level. Consumers have been starting to report feeling slightly more optimistic about the economy after six months of cooler price increases.
Now, the critical question for households and policymakers alike is whether more modest price increases can continue.
“Is it sending us a true signal that we are, in fact, on a path — a sustainable path — down to 2 percent inflation?” Jerome H. Powell, the Fed chair, said during his Jan. 31 news conference. “That’s the question.”
The Fed aims for 2 percent inflation on average using a separate but related measure, the Personal Consumption Expenditures index. That gauge is set for release on Feb. 29.
Part of the problem with Tuesday’s report, from the Fed’s perspective, is that the pickup in the core inflation index came from services: Prices for airfares, hotel rooms, haircuts and financial help all climbed in January. Service inflation tends to be driven by slow-moving forces like wage growth, and it can be very stubborn.
Monthly changes in January
Piped utility gas service
Motor vehicle insurance
Motor vehicle maintenance
Food away from home
All items excl. food and energy
Rent of primary residence
Tobacco, smoking products
Dairy and related products
Meats, poultry, fish, eggs
Cereals, bakery products
Medical care commodities
Gasoline (all types)
Used cars, trucks
Nonalcoholic beverages and materials
Motor vehicle maintenance and repair
Fruits and vegetables
All items excluding food and energy
Tobacco and smoking products
Meats, poultry, fish and eggs
Cereals and bakery products
Used cars and trucks
And while the hotter-than-expected inflation figures were just one month of data, they came alongside other evidence that the economy was growing more quickly than expected. Hiring picked up in January, wage growth was solid, and consumers continue to spend .
Some analysts have suggested that in an economy this hot, wrestling inflation the rest of the way to normal will prove more difficult than the progress so far. In other words, the “last mile” on inflation might be the toughest one. Tuesday’s report could give that argument more heft.
“It is too early to declare victory over inflation,” said Torsten Slok, chief economist at Apollo Global Management. He noted that key economic measures like hiring picked back up after the Fed hinted late last year that it was done with rate increases — evidence of the potential risks of backing off too early.
“The last mile will be harder,” Mr. Slok said.
So far, bringing inflation down has been less painful than economists had expected. Many had predicted that it would take a substantial cooling in the economy — and a jump in unemployment — to lower price increases. Instead, inflation has fallen gently even with a strong job market.
The improvement came partly as pandemic-roiled supply chains healed, allowing and goods inflation to cool. Used car prices fell outright in January, for instance.
Economists are now monitoring services prices as they try to gauge whether inflation is coming down sustainably — with housing in especially close focus.
Rents have climbed more slowly in recent months, and many analysts have been expecting that trend to continue as cheaper new leases feed into official inflation figures. Housing makes up such a big chunk of American spending that the expected cooling would help to lower overall inflation.
But January’s report offered a reason for caution. A measure that estimates how much it would cost to rent a house that someone owns — called owner’s equivalent rent — picked up.
For the inflation report as a whole, the takeaway is that the Fed “really needs to make sure that inflationary pressures will not re-accelerate before they can cut interest rates,” said Blerina Uruci, chief U.S. economist at T. Rowe Price.
Madeleine Ngo contributed reporting.
Jeanna Smialek covers the Federal Reserve and the economy for The Times from Washington. More about Jeanna Smialek
Essay on Inflation
Students are often asked to write an essay on Inflation in their schools and colleges. And if you’re also looking for the same, we have created 100-word, 250-word, and 500-word essays on the topic.
Let’s take a look…
100 Words Essay on Inflation
Inflation is when prices of goods and services rise over time. This means you need more money to buy the same things. It’s like a slow-motion robbery!
Causes of Inflation
Inflation is often due to increased production costs or increased demand for goods and services. When people want more of something, and it’s scarce, prices go up.
Impact of Inflation
Inflation affects everyone. If your income doesn’t increase as fast as inflation, you’ll have less buying power. But, if you’re a business owner, you might be able to raise prices and make more money.
Governments try to control inflation by adjusting interest rates, taxes, and government spending. It’s a tricky balancing act to keep inflation low but not too low.
- Paragraph on Inflation
250 Words Essay on Inflation
Inflation, a crucial economic concept, refers to the rate at which the general level of prices for goods and services is rising, subsequently eroding purchasing power. It’s an indicator of the economic health of a nation, with moderate inflation signifying a growing economy.
The Causes of Inflation
Inflation generally occurs due to two primary factors: demand-pull and cost-push inflation. Demand-pull inflation transpires when demand for goods and services surpasses their supply. On the other hand, cost-push inflation arises when the costs of production escalate, causing producers to increase prices to maintain profit margins.
Effects of Inflation
Inflation impacts various aspects of the economy. It erodes the purchasing power of money, causing consumers to spend more for the same goods or services. Inflation can also create uncertainty in the economy, affecting investment and saving decisions. However, moderate inflation can stimulate spending and investment, driving economic growth.
Central banks attempt to control inflation through monetary policy. By adjusting interest rates, they influence the level of spending and investment in the economy. Higher interest rates typically reduce spending, curbing inflation. Conversely, lower interest rates stimulate spending, potentially leading to inflation.
Inflation is a complex and multifaceted subject. Understanding its causes, effects, and the measures to control it is essential for both macroeconomic stability and individual financial well-being. As future leaders, it’s crucial for us as students to grasp these concepts to make informed decisions in our professional and personal lives.
500 Words Essay on Inflation
Introduction to inflation.
Inflation is a complex economic phenomenon that affects every aspect of our lives, from the cost of living to the value of money. It is defined as the rate at which the general level of prices for goods and services is rising, subsequently, purchasing power is falling. Central banks attempt to limit inflation, and avoid deflation, in order to keep the economy running smoothly.
Inflation is primarily caused by an increase in the money supply that outpaces economic growth. Ever since the end of the gold standard, governments have had the ability to create money at will. If a nation’s money supply grows too rapidly compared to its production of goods and services, prices will increase, leading to inflation.
Additionally, inflation can be spurred by demand-pull conditions, where demand for goods and services exceeds their supply. Cost-push inflation, on the other hand, occurs when the costs of production increase, causing producers to raise prices to maintain their profit margins.
Impacts of Inflation
Inflation affects economies in various ways. While mild inflation is viewed as a sign of a healthy economy, hyperinflation can lead to economic instability. It erodes purchasing power as the same amount of money can buy fewer goods and services. This can lead to uncertainty and a decrease in spending and investment, which can slow economic growth.
Moreover, inflation can harm savers if the inflation rate surpasses the interest rate on their savings. It also favors borrowers, as the real value of their debt diminishes over time. This redistribution of wealth from savers to borrowers can lead to social and economic inequalities.
Central banks use monetary policy to control inflation. They adjust the money supply by setting interest rates and through open market operations. By raising interest rates, central banks can decrease the money supply, making borrowing more expensive and slowing economic activity, thereby reducing inflation.
Furthermore, governments can use fiscal policy to control inflation. This involves changing tax rates and levels of government spending to influence the level of demand in the economy. By reducing demand, governments can put downward pressure on prices and reduce inflation.
Inflation is an intricate part of our economic systems. It is a double-edged sword that can stimulate economic growth when mild, but can also lead to economic instability when it becomes too high. Understanding inflation is crucial for policymakers, investors, and consumers alike as it influences our decisions and shapes our economic reality. By effectively managing inflation, governments can promote economic stability and growth, thereby improving the standard of living for their citizens.
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Home — Essay Samples — Economics — Inflation — The Rise of Inflation Rate in the Us
The Rise of Inflation Rate in The Us
- Categories: American Government Economic Growth Inflation
About this sample
Words: 1605 |
Published: Jul 15, 2020
Words: 1605 | Pages: 4 | 9 min read
Table of contents
Introduction, financial measures in the us government's inflationary rise, recommedation, what are some factors that contribute to the rise in inflation, how did the inflation affect the market, implementation of additional monetary easing (so-called qe 3), purchase policies of mbs newly decided at fomc in september.
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Essay on the Causes of Inflation (473 Words)
Read this essay to learn about different causes of Inflation!
Inflation is a very complicated phenomenon and may be caused by several factors.
The following are the main causes of inflation:
(i) Demand-Pull Inflation:
Basically, inflation represents a situation whereby the pressure of aggregate demand for goods and services exceeds the available supply of output (both being counted at the prices ruling at the beginning of a period). In such a situation, the rise in price level is a natural consequence. Now this excess of aggregate demand over supply may be the result of more than one force at work. As we know, aggregate demand is the sum of consumers’ spending on current goods and services, government spending on current goods and services and net investment being contemplated by the entrepreneurs.
At times, however, the government, the entrepreneurs or the households may attempt to secure a larger part of output than would thus accrue to them. Inflation is thus caused when aggregate demand for all purposes— consumption, investment and government expenditure — exceeds the supply of goods at current prices. This is demand-pull inflation.
(ii) Cost-Push Inflation:
We can visualize a situation, where even though there is no increase in aggregate demand, prices may still rise. This may happen if the costs, particularly the wage-costs, go on rising. Now as the level of employment rises, the demand for workers also rises so that the bargaining position of the workers becomes stronger. To exploit this situation, they may ask for an increase in wage rates, which are not justifiable on grounds either of a prior rise in productivity or of cost of living.
The employers in a situation of high demand and employment are more agreeable to concede these wage claims, because they hope to pass on these rises in costs to the consumers in the shape of rise in prices. If this happens, we have another inflationary factor at work and the inflation thus caused is called the wage-induced or cost-push inflation.
(iii) Wage-Price Spiral:
But that will not be the end of the story. A rise in prices reduces the real consumption of the wage earners. They will, therefore, press for higher money wages to compensate themselves for the higher cost of living. Now an increase in wages, if granted, will raise the cost of production further and, therefore, entrepreneurs will be tempted to raise the prices.
This adds fuel to the inflationary fire. A further rise in prices raises the cost of living still further, and the workers ask for still higher wages. In this way, wages and prices chase each other and the process of inflationary rise in prices gathers momentum. If unchecked, this may lead to hyper-inflation, which signifies a state of affairs where wages and prices chase each other at a very quick speed. This is a state of galloping inflation.
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