How does inflation affect purchasing power


What is inflation - A definition

Under inflation we understand a decrease in the value of money or an increase in the general price level. Literally translated means inflation "Inflate" or "inflate". If the money supply in a country grows faster than production there, the demand for goods and services increases. This ultimately increases the average prices.

An increased price level can also arise because producers, traders or service providers continue to charge higher costs, e.g. resulting from increased raw material or production costs, higher personnel costs or higher tax rates. If prices rise, the money available is worth less, because the consumer can buy less for the same money - purchasing power falls.

If wages and salaries rise at the same rate, purchasing power is maintained and inflation does not occur. However, if wages and salaries rise more slowly than prices, purchasing power falls and inflation occurs.

The inflation is determined by creating an economically average or representative shopping basket. The prices of the goods contained (food, clothing, etc.) and services (hairdresser, insurance, etc.) are determined and compared with the prices of the same goods at the previous year.

Deflation - What is it?

In the deflation If the general price level falls in the long term, this increases the purchasing power of money - it is worth more. The supply of goods and services is greater than the demand. As a result, prices keep falling. For the entire economy of the country, this can lead to bankruptcies, rising unemployment and falling wages in the medium and long term. Causes can be, for example, a decline in exports or an excess supply that has arisen. Deflation is much less common than inflation.

Are Inflation and Deflation Dangerous?

Price stability is important for a stable currency. If the value of the money falls, payment problems arise. People lose confidence in the currency and put their money in real assets instead of taking it to the bank and investing it there. As a result, inflation continues to rise.
An inflation rate of up to five percent per year is normal and not threatening for the economy. This inflation rate is called “healthy” inflation.

Control of inflation by central banks and politics

Both politics and central banks have options for influencing and controlling. For example, if the central banks raise the key interest rate, you make lending less attractive and money scarcer. This scarcity leads to increasing monetary value. For example, politics can help fight inflation by fixing prices or wages. It can also influence the supply and demand of goods through taxes and investments and thus shift prices in one direction or the other. However, these economic policy measures are very often accompanied by side effects and their targeted effectiveness is controversial even among experts.