Inflation overview

Inflation is an economic term that means a general increase in the price of goods and services in an economy. As the price of these goods rises, the economy's currency buys fewer goods and services. So while consumers may keep a constant amount of money in their bank account, their purchasing power is reduced through inflation.

Inflation can be measured in terms of a single good or service, though it is often referred to in terms of how it affects the overall economy.

To support employees and retain talent, companies often give pay raises to balance the rising cost of living. These raises come in the form of annual cost-of-living adjustments in salaries or higher wages demanded by new employees.

What is the inflation rate?

Inflation is typically measured by the inflation rate, which is calculated by comparing the current price for a set of goods and services to past prices over time. The inflation rate is often  based on the Consumer Price Index  and looks at goods and services necessary to live a comfortable life. The rate is based on a variety of products, such as groceries and cable TV fees, to ensure an accurate reflection of the economy as a whole.

So if the inflation rate is reported as 8 percent, it means that the prices of goods such as food and fuel, utilities such as electricity, and services such as travel or healthcare have increased. While a single good, for example fuel, may increase in price by much more than 8 percent, the average of the entire set of goods and services gives consumers an indication of what their full purchasing power may be.

What are the main causes of inflation?

Many factors can affect inflation. However, there  are  three main drivers for inflation in most sectors : cost-push, demand-push, and underlying.

demand-pull

Inflation can occur when there is too much money in the economy and not enough goods. This usually happens when there is an influx of cash, which increases the demand for more goods at a rate that companies cannot meet. A shortage of goods causes prices to rise.

This was a factor after the Covid-19 pandemic hit when cash-rich consumers with stimulus checks unexpectedly boosted purchasing demand. With broken supply chains disrupting production, companies couldn't meet demand quickly enough, leading to even more shortages and a surge in prices for the remaining goods.

Cost-Push

In this effect, inflation occurs when the price of producing goods and services increases. Manufacturers and companies pass those costs along the supply chain, and consumers have to pay more for products.

This was a factor in the rise in fuel prices, when countries  refused to buy oil from Russia  . The increased cost of finding new sources for gas, building new supply lines or expanding drilling capacities in other countries caused European and global oil prices to surge.

built in

Inflation can also occur when wages are increased to meet the overall cost of living. As employees and companies continue to expect inflation, companies  increase compensation to attract and retain talent  . This creates a wage-price spiral where companies need to increase prices for their products and services to retain the talent needed to produce them.

Are there any benefits of inflation?

Inflation can affect people, businesses, and nations both positively and negatively.

Positive Effects of Inflation

• Tangible assets like real estate increase in value to owners over time.
• Companies keep low inventories, often increasing margins on products.
• Inflation can lead to an increase in the wages of workers.
• Inflation can reduce unemployment.

Negative Effects of Inflation

• The purchasing power of consumers is reduced, which negatively impacts the purchase of essential commodities by customers, especially those at or below the poverty line.
• Companies often need to raise salaries to help employees keep up with the cost of living, which increases company expenses.
• Inflation can lead to an economic recession, as consumers begin to prioritize saving over spending.
• Sometimes companies   choose to downsize or right-size to cope with declining consumer demand.