How high inflation rate affects on business and economy
In simple language, inflation means rising prices and it shows the increase in cost of living. In economics, inflation is explained as rise in the general level of prices of goods and services in an economy over a period of time. With the rise in price levels a unit of currency will buy fewer goods and services. As a result, the purchasing power of money will be reduced with inflation. In other words the real value of money will be lost day by day along with inflation. Inflation is measured by the Rate of Inflation or Inflation Rate which is the percentage change in a general price index calculated as an annualized figure.
A low inflation rate is beneficial to a country and zero or negative inflation is considered as bad. Also, a high inflation is harmful to an economy and it affects an economy in many ways.
- High inflation distorts consumer behavior. Because of the fear of price increases, people tend to purchase their requirements in advance as much as possible. This can destabilize markets creating unnecessary shortages.
- High inflation redistributes the income of people. The fixed income earners and those lacking bargaining power will become relatively worse off as their purchasing power falls.
- Trade unions may demand for higher wages at times of high inflation. If the claims are accepted by the employers, it may give rise to a wage-price spiral which may aggravate the inflation problem.
- During a high inflation period, wide fluctuations in the inflation rate make it difficult for business organizations to predict the future and accurately calculate prices and returns from investments. Therefore, it can undermine business confidence.
- When inflation in a country is more than that in a competitive country, the exports from former country will be less attractive compared to the other country. This means there will be less sales for that country’s goods both at home and abroad and that will create a larger trade deficit. At the same time, high inflation in a country weakens its competitive position in the international market.
This Hub was last updated on August 3, 2012
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