What is Inflation?

Inflation is an economic phenomenon that affects the prices of goods and services, as well as the purchasing power of consumers. This article will discuss the causes and effects of inflation.

December 20, 2022
min read
What is Inflation?

What is going on with inflation? 

It’s not a secret that many are feeling the pinch. The post COVID economy looks bleak, as global supply chains continue to struggle, and many countries roll out eye-watering stimulus packages in an attempt to kick-start their own economies. Inflation may have never been as contentious as it is today. Let’s define the phenomenon, understand how it works, and get an appreciation for the effects it may be having on you and your family. This is the first part in a series on inflation, where we’ll attempt to provide holistic yet easy to digest content, so you’re in the best position possible. 

Clearing up a few things: 

There is considerable semantic confusion that makes it extremely difficult for a non-expert to grasp the true state of affairs. Inflation, as this term was always used, means increasing the quantity of money in circulation. However, people today use the term "inflation" to refer to the phenomenon that is actually a consequence of inflation, that is, the tendency of prices and the cost of living to rise.

And this makes sense. A rise in prices is tangible for the everyday person. It’s the point of contact we all have, so naturally it’s what we care about most. However, we want to preface this blog with this: price inflation is in part caused  by monetary inflation, along with other global pressures. There are ways you can protect yourself, but at some point these issues become structural, and placing the responsibility on the individual could be considered not only useless, but harmful. 

Let’s quickly get some definitions out of the way. 

  • Consumer Price Index (CPI): This is a price index of a weighted average market basket of consumer goods and services purchased by households. Changes in measured CPI track changes in prices over time. In simple terms, what a variety of commonly purchased goods and services cost. 
  • Inflation: the original definition of this word refers to the increase in the quantity of money in circulation. However, it’s difficult to parse out who is using the economic definition of inflation, and those who are simply referring to an increase in the cost of living. 

Price vs Monetary Inflation

To get a better understanding of this, let’s quickly look at two definitions of inflation, which we will use during the rest of this article, and moving forward. 

  • Monetary inflation: This is the original definition of the word. The increase in the amount of money in circulation. Usually controlled by a central bank or government. 
  • Price inflation:  This is the modern usage of the word inflation. The increase in prices of basic goods and services. This can be a result of monetary inflation, but also other pressures such as global conflict, pandemic, etc.

Let’s talk about how inflation is calculated. 

The calculation of the consumer price index, and therefore the inflation rate, varies from country to country. In our example, we’ll be looking at the CPI calculation for the United States, and using that as a benchmark for our discussion. It’s important to note that the good and services selected in your country may differ. Here’s a brief overview of some of the categories used by officials to gather an understanding of consumer prices. 

  • Food (groceries, dining out) 
  • Energy (electricity and fuel/gasoline) 
  • Commodities (Apparel, new and used cars, tobacco products) 
  • Shelter (rent) 
  • Healthcare (physicians and hospital) 

Despite the effect of the US and the US dollar on global inflation rates, it is largely a global phenomenon. Inflation rates rise and fall consistently across the board. This is all to say that no matter where you live, you will feel the effects of inflation one way or another. Each of these categories is weighted differently when calculating the overall ‘inflation rate’

How to brace yourself for inflation. 

Preserving your purchasing power. Money's purchasing power is expressed in terms of how many goods or services can be purchased with one unit of it. With inflationary currencies, we see goods and services rising in cost, meaning that the purchasing power of that particular currency is going down. 

Once again, we feel it important to reiterate, these issues are structural. Placing too much responsibility on the individual to react, removes the responsibility from those who have the tools to enact meaningful change. Our hope is that by educating more people, there will be greater pressure to create systems that work for all of us. 

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