INFLATION

DOES INFLATION ALWAYS BAD IN ECONOMICS???

BY

CHARLES J. MWAMTOBE

ABSTRACT

Inflation is just measurement on the stability of the country to control its economic
status. Always people tend to talk about the badness’ of the inflation, but the truth
is not always inflation can be bad. Stay in this paper up to end, and you will
discover the facts.

INFLATION can be defined as the process in which the price level is rising at a rapid rate and
the money is losing its value. Therefore, in that sense there is negative relationship between price
level rising and the value money. Gardner Ackley defines inflation as a president and appreciate
rise in general level or average of price. Here may note that rising generally level of price does
not mean that all prices of goods and services are necessary rising. Thus during inflation, there
are different price rising of some of goods and services and other remain relatively constant and
few other falling.

Inflation do not occurs by negligence, there are forces that push into the occurrence of inflation
such as increases in demand, increases inrere cost of production, increases in money supply,
lack of supply or shortage of goods, increase in government expenditures, population increases,
increases in private expenditures

Inflation is certainly not always bad for the economy in fact of moderate level of inflation
matching to its growth rate is good for the country. Moderate inflation is mild and tolerable form
of inflation occurs when prices are rising slowly. When the rate of inflation is, less than 10%
annually or it is a single digit, annually inflation rate it is considered as moderate inflation in the
present day economy.

Moderate inflation suggest demand in the system while no inflation or deflation suggest demand
collapse which is much more dangerous than inflation, for instance USA inflation is 1.5 - 2%
while its growth is 2-3%. This equation is ok, A country having inflation equal to its growth rate
is not bad though it is always preferred to have lower inflation and high growth rate. However, it
is difficult to achieve on a continuous bases. Too high inflation will make the currency of the
country very weak against the major global currencies and will bring the economy to its knees
like what happen in the case of Zimbabwe. There are number of reasons about why inflation is
not always bad, such reason are following;

Business Growth, controlled growth of inflation, can become part of business growth simply
because saving is often invested because of the net loss if they are kept in a bank. During times
of controlled inflation, people in the past tended to spend, as they feared prices could rise, saving
on buying now rather than paying more lately. In addition, it helps smaller firms grow to larger
firms. Assuming that both firms A and B sells similar goods. A larger cooperation with
economies of scale and B a smaller firm without economies of scale. Therefore the price of good
A would be less than good B. Assuming that the inflation rate is 10%.The price of good A is $ 9
and inflation cause it to increase to $ 9.90.And for good B, since the cost of production is higher
it costs $ 10.And with inflation pushing it up to $11.The proportion of increase is similar but the
real price increase is different, firm A $0.90 and firm B $1.Thus firm B having a $0.10 increased
revenue more than firm A. Resulting in a large benefit. Ceteris peribus cost of production and
other factors equalized.

Inflation decreases the real value of debt, low stable inflation is also a way of helping to reduce
the real value of outstanding debts, and there are many homeowners with huge mortgages who
might benefit from a period of inflation to bring down the real burden of their mortgages loans.
The government tool might welcome a period of higher inflation given the huge level of public
sector debt and increase the disposable income of individuals who are struggling to off their
debts. When people take on a debt like a mortgage they generally expect an inflation of 2% to
help erode the value of debt over time if this inflation rate of 2% fails to materialize, their debt
burden will be greater than expected.

Inflation enables adjustment of wages. It is argued a moderate rate of inflation make its easier to
adjust relative wages. For example it may be difficult to cut workers resent and resist nominal
wage cut but if average wages are raising due to moderate inflation it is easier to increase the
wages of productive workers wages, un productive worker can have their wages frozen which is
effectively a real wage cut.

Inflation enables adjustment of relative prices. Moderate inflation makes it easier to adjust
relative prices. This is particularly important for a single currency like the Euro zone. Countries
like Italy, Spain and Greece became uncompetitive leading to large current account deficit.
Because Spain and Greece cannot devalue in the single currency, they have to cut relative prices
to regain competitiveness. With very low inflation in Europe, this means they have to cut price
and cut wages, which causes lower growth due to a deflation. If they had moderate inflation, it
would be easier to adjust and regain competitive without resort to deflation.

Inflation can boost growth of economy; at times of very low inflation the economy may be stuck
in an recession.Argubly targeting a higher rate of inflation can enable a boosting in economic
growth. This view is contravesial.Not all economist would support targeting a higher inflation
rate.However,some would target higher inflation, if the economy was stuck in prolonged
recession for example, the Euro zone had a very low inflation rate in 2013-2014,and this has
corresponded to very weak economic growth and very high unemployment. If the ECB had been
willing to target higher inflation, then we could have seen a rise in Euro zone GDP.

Tax revenues, the government gains from inflation through what is called ‘fiscal drag effects’.
For example, many indirect taxes are ad valorem in nature, e.g. VAT at 20% - so as prices rise,
so does the amount of tax revenue flowing into the Treasury but there is common knowledge that
inflation hurts consumers. For example, whenever you go to the market and find that your cash
cannot buy as much, it becomes very frustrate

However inflation not only having advantages but also has negative impact or disadvantages as
follows;

Money loses its value and therefore people lose confidence in money as the value of savings is
reduced. This is particularly the case with rapid inflation
Inflation can get out of control price increases lead to higher wage demands as people try to
maintain their living standards.  Businesses then increase prices to maintain profits. Higher
prices then put upward pressure on wages. This is known as a wage-price spiral.
 Problems for people on fixed incomes - consumers and businesses on fixed incomes lose out
because the their real incomes falls
Employees in poor bargaining positions lose out - for example people in low paid jobs with little
or no trade union protection and my see the real value of their pay fall when inflation is high. In
this sense, inflation can cause an arbitrary redistribution of income.
Inflation can favor borrowers at the expense of savers because inflation erodes the real value of
existing debts. And the rate of interest on loans may not cover the rate of inflation. When the real
rate of interest is negative, savers lose out at the expense of borrowers.
Inflation can disrupt business planning. Although businesses are aware of what has happened to
prices in the past, they cannot be certain what will happen in the next few months and years.
Budgeting becomes difficult and this may reduce planned investment spending. Lower
investment has a detrimental effect on the economy long run growth potential.
Higher unemployment. Particularly if one country experiences a much higher rate of
inflation than another, leading to a loss of international competitiveness and a subsequent
worsening of their international trade performance. If inflation in the UK economy is
significantly above that of our major trading partners, British exporters may struggle to maintain
their share in international markets and import penetration into our domestic economy would be
expected to grow. Both factors could lead to worsening balance of payments problems.