The two largest dangers of rising inflation, we believe, are constraints on business profitability and the possibility of higher interest rates, neither of which are currently flashing warning flags.
What are the three consequences of inflation?
Inflation lowers your purchasing power by raising prices. Pensions, savings, and Treasury notes all lose value as a result of inflation. Real estate and collectibles, for example, frequently stay up with inflation. Loans with variable interest rates rise when inflation rises.
Inflation is a sort of risk.
Inflation risk refers to when the price of products and services rises faster than expected, or when the same amount of money has less purchasing power. Purchasing Power Risk is another name for inflation risk.
Who is the most vulnerable to inflation?
Inflation is defined as a steady increase in the price level. Inflation means that money loses its purchasing power and can buy fewer products than before.
- Inflation will assist people with huge debts, making it simpler to repay their debts as prices rise.
Losers from inflation
Savers. Historically, savers have lost money due to inflation. When prices rise, money loses its worth, and savings lose their true value. People who had saved their entire lives, for example, could have the value of their savings wiped out during periods of hyperinflation since their savings became effectively useless at higher prices.
Inflation and Savings
This graph depicts a US Dollar’s purchasing power. The worth of a dollar decreases during periods of increased inflation, such as 1945-46 and the mid-1970s. Between 1940 and 1982, the value of one dollar plummeted by 85 percent, from 700 to 100.
- If a saver can earn an interest rate higher than the rate of inflation, they will be protected against inflation. If, for example, inflation is 5% and banks offer a 7% interest rate, those who save in a bank will nevertheless see a real increase in the value of their funds.
If we have both high inflation and low interest rates, savers are far more likely to lose money. In the aftermath of the 2008 credit crisis, for example, inflation soared to 5% (owing to cost-push reasons), while interest rates were slashed to 0.5 percent. As a result, savers lost money at this time.
Workers with fixed-wage contracts are another group that could be harmed by inflation. Assume that workers’ wages are frozen and that inflation is 5%. It means their salaries will buy 5% less at the end of the year than they did at the beginning.
CPI inflation was higher than nominal wage increases from 2008 to 2014, resulting in a real wage drop.
Despite the fact that inflation was modest (by UK historical norms), many workers saw their real pay decline.
- Workers in non-unionized jobs may be particularly harmed by inflation since they have less negotiating leverage to seek higher nominal salaries to keep up with growing inflation.
- Those who are close to poverty will be harmed the most during this era of negative real wages. Higher-income people will be able to absorb a drop in real wages. Even a small increase in pricing might make purchasing products and services more challenging. Food banks were used more frequently in the UK from 2009 to 2017.
- Inflation in the UK was over 20% in the 1970s, yet salaries climbed to keep up with growing inflation, thus workers continued to see real wage increases. In fact, in the 1970s, growing salaries were a source of inflation.
Inflationary pressures may prompt the government or central bank to raise interest rates. A higher borrowing rate will result as a result of this. As a result, homeowners with variable mortgage rates may notice considerable increases in their monthly payments.
The UK underwent an economic boom in the late 1980s, with high growth but close to 10% inflation; as a result of the overheating economy, the government hiked interest rates. This resulted in a sharp increase in mortgage rates, which was generally unanticipated. Many homeowners were unable to afford increasing mortgage payments and hence defaulted on their obligations.
Indirectly, rising inflation in the 1980s increased mortgage payments, causing many people to lose their homes.
- Higher inflation, on the other hand, does not always imply higher interest rates. There was cost-push inflation following the 2008 recession, but the Bank of England did not raise interest rates (they felt inflation would be temporary). As a result, mortgage holders witnessed lower variable rates and lower mortgage payments as a percentage of income.
Inflation that is both high and fluctuating generates anxiety for consumers, banks, and businesses. There is a reluctance to invest, which could result in poorer economic growth and fewer job opportunities. As a result, increased inflation is linked to a decline in economic prospects over time.
If UK inflation is higher than that of our competitors, UK goods would become less competitive, and exporters will see a drop in demand and find it difficult to sell their products.
Winners from inflation
Inflationary pressures might make it easier to repay outstanding debt. Businesses will be able to raise consumer prices and utilize the additional cash to pay off debts.
- However, if a bank borrowed money from a bank at a variable mortgage rate. If inflation rises and the bank raises interest rates, the cost of debt repayments will climb.
Inflation can make it easier for the government to pay down its debt in real terms (public debt as a percent of GDP)
This is especially true if inflation exceeds expectations. Because markets predicted low inflation in the 1960s, the government was able to sell government bonds at cheap interest rates. Inflation was higher than projected in the 1970s and higher than the yield on a government bond. As a result, bondholders experienced a decrease in the real value of their bonds, while the government saw a reduction in the real value of its debt.
In the 1970s, unexpected inflation (due to an oil price shock) aided in the reduction of government debt burdens in a number of countries, including the United States.
The nominal value of government debt increased between 1945 and 1991, although inflation and economic growth caused the national debt to shrink as a percentage of GDP.
Those with savings may notice a quick drop in the real worth of their savings during a period of hyperinflation. Those who own actual assets, on the other hand, are usually safe. Land, factories, and machines, for example, will retain their value.
During instances of hyperinflation, demand for assets such as gold and silver often increases. Because gold cannot be printed, it cannot be subjected to the same inflationary forces as paper money.
However, it is important to remember that purchasing gold during a period of inflation does not ensure an increase in real value. This is due to the fact that the price of gold is susceptible to speculative pressures. The price of gold, for example, peaked in 1980 and then plummeted.
Holding gold, on the other hand, is a method to secure genuine wealth in a way that money cannot.
Bank profit margins tend to expand during periods of negative real interest rates. Lending rates are greater than saving rates, with base rates near zero and very low savings rates.
Anecdotal evidence
Germany’s inflation rate reached astronomical levels between 1922 and 1924, making it a good illustration of high inflation.
Middle-class workers who had put a lifetime’s earnings into their pension fund discovered that it was useless in 1924. One middle-class clerk cashed his retirement fund and used money to buy a cup of coffee after working for 40 years.
Fear, uncertainty, and bewilderment arose as a result of the hyperinflation. People reacted by attempting to purchase anything physical such as buttons or cloth that might carry more worth than money.
However, not everyone was affected in the same way. Farmers fared handsomely as food prices continued to increase. Due to inflation, which reduced the real worth of debt, businesses that had borrowed huge sums realized that their debts had practically vanished. These companies could take over companies that had gone out of business due to inflationary costs.
Inflation this high can cause enormous resentment since it appears to be an unfair means to allocate wealth from savers to borrowers.
What are the benefits and drawbacks of inflation?
Do you need help comprehending inflation and its good and negative repercussions if you’re studying HSC Economics? Continue reading to learn more!
Inflation is described as a long-term increase in the general level of prices in the economy. It has a disproportionately unfavorable impact on economic decision-making and lowers purchasing power. It does, however, have one positive effect: it prevents deflation.
How do you deal with inflation risk?
Accepting lesser yields is the only way to avoid inflationary danger. As a result, short-term inflation hedging is only acceptable for seniors, fixed-income investors, and others who will see their living standards decrease during inflationary periods.
Is inflation equally harmful to everyone?
Inflation is on the rise. It does not have the same effect on everyone. Rising costs, according to economists, can have a disproportionate impact on low-income households. However, as NPR’s Laurel Wamsley tells, incomes at the bottom of the pay range are also rising.
What are the economic consequences of inflation in the Philippines?
Although business owners stated in the Total Remuneration Survey (TRS) 2020 that they want to raise pay by an average of 5.6 percent in 2021, more over half of the companies stated that they will postpone salary increases or reduce compensation increment levels to keep expenses down.
So, how does the rate of inflation influence Filipinos’ lives? Here’s what you’ll need to know.
The effects of the rising inflation in the Philippines
An increase in the rate of inflation means you’ll have to pay more for the same items you used to get for less money. For others, this may imply a lesser level of living and the sacrifice of luxury in order to obtain basic necessities.
As the cost of living rises, an ordinary earner may be forced to downsize his or her lifestyle. A high rate of inflation means you’ll have less disposable income and hence less money to spend than you’d want.
The effects of inflation on people with fixed incomes, such as pensioners who rely on pension benefits, will be felt. Given the rise in the cost of basic commodities, prescriptions, and utilities, their regular pension may no longer be sufficient to support their current lifestyle.
Even if health-care costs are expected to climb more slowly this year, there’s still a potential that, in order to satisfy everyday demands, health will be prioritized less for average income earners. You may no longer be able to acquire nutritional supplements or receive prescribed treatments, and your regular examinations may be curtailed.
Due to a lack of financial resources and a high rate of inflation, you may find yourself with insufficient funds to allocate for your savings, your child’s education, health emergencies, business, and retirement, all of which may have an impact on your future goals.
Who is harmed by inflation?
According to a new research released Monday by the Joint Economic Committee Republicans, American consumers are dealing with the highest inflation rate in more than three decades, and the rise in the price of basic products is disproportionately harming low-income people.
Higher inflation, which erodes individual purchasing power, is especially devastating to low- and middle-income Americans, according to the study. According to studies from the Federal Reserve Banks of Cleveland and New York, inflation affects impoverished people’s lifetime spending opportunities more than their wealthier counterparts, owing to rising gasoline prices.
“Inflation affects the quality of life for poor Americans, and rising gas prices raise the cost of living for poor Americans living in rural regions far more than for affluent Americans,” according to the JEC report.
Is inflation beneficial or harmful?
- Inflation, according to economists, occurs when the supply of money exceeds the demand for it.
- When inflation helps to raise consumer demand and consumption, which drives economic growth, it is considered as a positive.
- Some people believe inflation is necessary to prevent deflation, while others say it is a drag on the economy.
- Some inflation, according to John Maynard Keynes, helps to avoid the Paradox of Thrift, or postponed consumption.
What is the risk of human capital?
The gap between a company’s or organization’s human capital requirements and its workforce’s existing human capital is referred to as human capital risk. This chasm can lead to inefficiency, failure to meet goals, a tarnished reputation, fraud, financial loss, and eventual liquidation for an organization. An organization should teach, foster, and support its personnel to mitigate and eliminate human capital risk.