Rapid inflation can be a good thing … when we’re talking about a birthday balloon.
But when it’s economics, it’s not great.
To be sure, inflation is normal and, to some extent, necessary.
A healthy economy typically generates inflation in the range of about 2 percentage points, reflecting increased economic activity stemming from a growing population and productivity gains.
But inflation becomes problematic when it begins to outpace the rate of wage gains.
That’s exactly what’s happening now, as inflation hit its highest point since 1990.
The inverse of inflation is deflation. This is when prices decline. That sounds like a good thing, but it’s often not – because when overall prices decline, it’s often a sign of the economy performing poorly, leading to surpluses of goods and insufficient buying power.
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Here are the basic things you need to know about inflation:
What does inflation mean and how does it work?
Inflation describes the rate of price increases of goods and services.
It can come about for many different reasons. Those include product shortages, labor shortages, wage increases, raw material cost hikes, higher demand and policy decisions on issues like interest rates, tariffs and government spending.
The U.S. economy is currently grappling with price increases of many different products and services, including new and used cars, gasoline, natural gas, food and apparel.
How bad can inflation get?
Technically, it’s unlimited.
Countries like Zimbabwe have grappled with a crisis of hyperinflation, which involves what the Federal Reserve has called “extreme and uncontrollable.” Zimbabwe’s crisis grew so bad in 2009 that the country issued currency worth 100 trillion local dollars.
But that’s not happening here.
The worst inflation in recent memory for Americans was in the 1970s and early 1980s, when inflation topped out at 13.5%, according to the Bureau of Labor Statistics.
Looking at 10-year periods, something that cost $1 in January 1975 on average cost $2.02 in January 1985, according to the BLS. In contrast, inflation has been largely under control this century. Something that cost $1 in 2011 only costs $1.19 in 2021.
Still, such a significant rise in inflation hasn’t occurred since George H.W. Bush was in the White House and “Home Alone” was in theaters.
What’s the effect of inflation on my buying power?
The greater the rate of inflation, the less your money is worth. In other words, $1,000 stuffed under your mattress is prone to decline in value over time.
This is why financial advisers urge people to responsibly invest some of their savings, if possible, to protect themselves against inflation.
Wage increases can help make up the difference.
In recent months, a number of major American employers have announced wage hikes, including Starbucks, Bank of America, Walmart, Target and CVS. But the rate of inflation is outpacing some of those gains, according to the BLS.
What is the consumer price index?
The Consumer Price Index, often shortened as CPI, is a figure used to gauge the rate of increasing prices. It’s tantamount to the rate of inflation.
The Bureau of Labor Statistics calculates the CPI by assessing the change in price of a variety of goods, including energy, food and cars.
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