Consequences of Inflation
Inflation is defined as sustained or continuous rise in the general price level of goods and services in the economy. Inflation basically leads to increase in the cost of living leading to a fall in the standard of living of mass people. During inflation, excessive money chases too few goods in the market. Thus, during inflation, the value of money decreases that is price level arises.
There are two types of inflation, they are:
1. Demand-pull Inflation
2. Cost-pull Inflation
1. Demand-Pull Inflation:
In the inflation arises due to excess demand for goods and services over limited quantity supplied, it is called demand-pull inflation. When aggregate demand increases, the available supply cannot meet the increased demand. So, the price of goods and services will rise and demand-pull inflation occurs.
2. Cost-push Inflation:
Increase in general price level of goods and services in the economy due to increase in costs of production is called cost-push inflation. When prices of factors of production (rent, wage, interest, and profit) and prices of raw materials increase, cost of production also increases and then prices of goods and services go up.
Consequences of Inflation:
1. Decrease in value of money:
Inflation causes increase in price of goods and services and decrease in value of money. It results into higher expenditure and reduces the savings of people that is households.
2. Encourages hoarding of goods:
During the period of inflation, the consumers start to hoard the goods due to the fear of further increase in inflation rate. It creates scarcity of goods in the market.
3. Decrease in faith on domestic currency:
The value of domestic currency falls continuously due to inflation. Due to this, people lose on domestic currency and they may by foreign currencies.
4. Effects on output and employment:
The low rate of inflation stimulates output and employment both. But, the very high rate of inflation, ultimately, reduces the output and increases the unemployment.
5. Effects on economic growth:
As we know, inflation reduces the savings and thereby capital formation. As capital formation declines, it reduces the investment and thereby economic growth in the nation.