Eli5 how does inflation work?

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I don’t quite get it, I understand its related to change in prices over time, by does it occur at a steady rate or is it dependent on external factors?

In: Economics

4 Answers

Anonymous 0 Comments

Let’s say the economy overall is doing fine, has steady growth. As a result more and more people will be able to buy products. Entrepreneurs will realize that demand for their products rises and raise their prices, and thus the amount you are able to buy with let’s say 1000¥ will be less than before.

The central bank(s) try to get inflation close to 2%. They define the base rate at which banks are able to borrow money from them. So in situations where the economy is not doing too well they will lower base rate to get banks to granting more credit to non-banks.

Anonymous 0 Comments

It’s when goods prices go up and so the economy overall inflates to compensate

If I work in a supermarket and I buy bread that is £1, but then the bread goes up to £2, I’d need more money to afford that, so my wages might go up. This in itself isn’t too bad, because as long as my wages rise with it it’s the same thing for me.

It becomes bad because it means the currency is worth less. What that means is that, even though it doesn’t matter to me because my wages rose, what about someone who is living off of their savings? Their bank balance won’t rise, so now that person has the same anount of money but it has less value (because everything is expensive)

Anonymous 0 Comments

1. Cost of goods to make a product go up. If I sell hamburgers and the cost of beef goes up (or rent, labor, stoves, etc), the cost of my hamburgers go up, then I raise my prices. Inflation.
2. A little bit more complicated. I sell my burgers for $5. Everyone around is wealthy. I raise my prices to $6. Inflation.

Anonymous 0 Comments

If demand increases faster than something can be produced, the price will increase. Supply & demand.

Inflation is very simply, *the average price increase for all goods in the economy*. In the US, it’s even calculated by looking at a shopping cart of common items and comparing it to last year’s shopping cart.

It’s dependent on **a lot** of external factors, but the two main ones are the following:

**An increase in money supply.** If people have a lot more money in their hands, they’ll pay more for goods, and that’ll drive up the price.

If interests rates are low for example, people borrow more, people will have more money in their hands, and demand increases.

**Demand increasing faster than productivity.** In the 1970s people kept getting bigger and bigger raises, but there simply weren’t enough goods in the economy for people to buy.

Productivity had not kept up with the amount of money people made, an example of too much money chasing too few goods, basic supply-demand.

As a result, the price of *everything* in the shopping cart increased, which equals inflation.