What is Inflation?

What is Inflation? June 7, 2011

You’ve probably heard that inflation is defined as “the gradual increase in the price of goods over time.”  Sounds like a simple definition of inflation, right?  Well, not quite. The gradual rise in price is only one part of inflation.  Think of the rise in price as the ‘second half,’ ‘part II’ or ‘the symptom’ of inflation.

Ok…so it doesn’t really define inflation then, does it?  Let’s see what Webster’s dictionary defines inflation as:

“a continuing rise in the general price level usually attributed to an increase in the volume of money and credit relative to available goods and services”

Here’s the missing piece!  Inflation happens because of an increase in the supply of money.  The more money that’s created, the less your dollars are worth.  That what causes your dollars to lose value – that’s what is behind the word inflation.

How To Cure Inflation

Milton Friedman, one of America’s greatest economists and author of Free to Choose and Money Mischief, defined the cure of inflation to be this:

The only cure for inflation is to reduce the rate at which total spending is growing.” The side effect to his suggested fix is this: “There is no way of slowing down inflation that will not involve a transitory increase in unemployment, and a transitory reduction in the rate of growth of output. But these costs will be far less than the costs that will be incurred by permitting the disease of inflation to rage unchecked.”

I hope this helps as you to understand inflation.  We all feel the symptoms of inflation, but understanding the cause and cure of inflation is often left out of the conversation.

Your thoughts?

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