What is inflation? And how does it affect us?

In the previous article, we read about how to save your child from the student debt trap. In this article, we will read what is inflation and how it affects us.

According to the International Monetary Fund (IMF), “Inflation is the rate of increase in prices over a given period.  

What is inflation?

Inflation is typically a broad measure, such as the overall increase in prices or the increase in the cost of living in a country. But it can also be more narrowly calculated for certain goods, such as food, or services, such as a haircut or travel cost.  

Whatever the context, inflation represents how prices of the relevant set of goods and services have increased over a certain period.  

Inflationary pressure suggests that you will have to pay more for the same goods and services this year compared to last year. If you possess the assets before the price rise, such as homes and stocks, this can help you.  

But if your income does not keep up with Inflation, your purchasing power diminishes. Inflation raises your cost of living over time, and it can be harmful to the economy if it is high enough. 

High Inflation has far-reaching consequences for a country’s economy.

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Let us see some ways in which inflation affects us

1. Erodes purchasing power

Inflation causes a decrease in the purchasing power of your currency due to a rise in prices across the economy. With the increase in the general price level (without an equivalent rise in your income), your ability to purchase goods with the given money decreases. 

2. Causes more inflation

When Inflation is stepping in, people tend to buy more stuff in anticipation that the prices will rise further in the future. So, this desire to spend produces a potentially disastrous loop in the face of this desire to spend.  

People and businesses are spending faster and more to limit the amount of time they hold their deteriorating money, resulting in an abundance of cash that no one wants.  

In other words, the supply of money exceeds the demand, causing the price of money and the purchasing power of currency to fall at an increasing rate.  

People grow frantic to get rid of their money, so every payday becomes a frenzy of spending on anything that isn’t becoming increasingly worthless. 

3. Lowers the cost of borrowing

When a business borrows money, it may pay back the cash it receives with the cash it earns later. The basic rule of Inflation says that the value of a currency tends to decline over time.  

So, in other words, the cash now is worth more than the cash in the future. Thus, Inflation lets debtors pay lenders back with money worth less than when they originally borrowed it.  

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4. Inflation and the cost of living

The cost of living rises when prices rise. People have less money to meet their responsibilities if they spend more money to live (assuming their incomes haven’t increased).  

People’s purchasing power falls due to rising costs and stagnant income. As a result, consumers may require more time to repay earlier loans, allowing lenders to collect interest for a longer time.  

Also, it is worth noting that some inflation is good for the economy. In its mild form, inflation has a positive effect as well. People who anticipate inflation are more likely to spend now rather than later since they know prices will rise in the future. Consumer spending is the engine that propels economic growth forward. 

As general consumers in the economy, to beat the brunt of inflation, we need to keep our money in safe assets and as little as possible in terms of cash. If we keep our money in assets that provide higher returns than the inflation rate, our money will grow over time.