Inflation: Types, Causes, Effects and Remedies
What is Inflation? Inflation refers to a situation when there is an overall increase in the prices of goods leading to a general decline in the value of money.
We will discuss the two major types of inflation:
1. Demand Pull Inflation: Inflation arises when there is an increase in the supply of money but there is no corresponding increase in the supply of goods useful to the community.
Accumulation of more money than before raises the purchasing power of people and stimulates the demand for goods but the supply of the latter being limited, the necessary consequence will be the inflation of the price level. Demand Pull Inflation thus means, in plain words, too much money chasing too few goods.
2. Cost Push Inflation: When the prices of goods increases because of an increase in the cost of production, it is known as cost push inflation.
What causes Inflation?
Additional money put in the hands of people naturally creates in them a desire to spend more on goods. The sellers these commodities get more money and they too feel an urge to add something to what they already possess, and the new purchases made with additional money will correspondingly benefit other producers and sellers too in an ever-widening circle. In this way, the demand for various commodities and services will go on rising in a spiral order in times of inflation.
The activities of speculators, hoarders, and profiteers also contribute much to the upward trend of prices.
The selling prices of good also increases if there is an overall increase in manufacturing cost.
What are the effects of Inflation?
It is not always true that additional purchasing power in the hands of people will develop inflationary tendencies. If the resources of a country are in an undeveloped condition, an addition to the purchasing power may stimulate investment leading to an increased supply of commodities. Money will be available at lower rates of interest and it will be a powerful factor in increasing the production of goods through larger investments of capital.
Unemployed labor will get wider opportunities for gainful occupations and the standard of living for all classes of people will necessarily go higher.
However, the evil effects of inflation are particularly noticeable in those highly industrialized countries where there is hardly any surplus or unemployed labor. Any increase in the supply of money cannot further widen the scope for employment or raise the productive capacity of the nation. The limits of productive capacity having been reached already, any increase in the supply of money can only result in pushing up the level of prices.
The value of money fell rapidly and its depreciation affected particularly the interests of people with fixed incomes and investing classes.
The bright side of the picture it that an increase in the supply of money often creates opportunities for employment largely and considerably relieves the burden of unemployment.
The resources of the country are more fully exploited and production is stepped up in all spheres of industrial activities.
Thus, it is seen that inflation does some positive good to a backward country whose resources are undeveloped and where a large section of people remain idle for want of employment.
However, the harmful tendencies of inflation should be minimized. In countries where inflation prevails, the Government must take effective steps to keep it under check.
It can be combated by reducing the purchasing power of the people through imposition of additional taxes. A high rate of taxation may, however, prove annoying and take away the initiative for enterprise.
The Government sometimes raises public loans, which also effectively restricts the purchasing power of people.
It may also be necessary to impose a system of control on production and distribution of many goods.
However, these measures, we must remember, can gain only a limited measure of success. They can check further rise in prices but cannot effectively bring them down.