Analyse The Main Costs Of Inflation

3812 words - 15 pages

During the 1960's and 70's European governments, instituted various wage and price controls to reduce inflation. As the inflation grew, Governments perceived it as a greater problem. Within the UK, in the 1980's as the inflation was reaching double figures, voters claimed that it was "public enemy number one." consequently the prime minister, Margaret Thatcher, adopted various extreme measures to combat inflation, which resulted in massive industrial, and political unrest, along with mass unemployment. But as a consequence of these measures, inflation was suppressed, which encouraged her double re-election. Inflation has been seen as a great problem, from public and governments alike, and as with Thatcher, successful anti-inflationary policy, can lead to political success, but is inflation as much a menace to the economy as it is perceived?Inflation is perceived to be such a great problem, as everyone in the whole economy is directly affected by it, so observe the negative aspects of it. In this way, only the people directly affected by unemployment perceived it to be a great problem, those who are not directly involved in terms of individually, or community, do not see the true costs of unemployment. Quite often the public's negative view of inflation is not from true economic costs. Within inflation, if incomes and costs grow at the same amount, there would be no reduction in purchasing power, so no economic cost. For instance, if wages increased by double, and so did price, then relatively, goods and services would be the same price. Fischer, in his book, "indexing, inflation, and economic policy", refers to this under the label "misunderstanding hypotheses." stating that people further dislike inflation, due to the false illusion of inflation taking away the "fruits of inflation caused income increase". This happens as people fail to recognize a general inflationary price level increase (Dornbusch). As a result of people failing to distinguish between nominal and real wage and price level increases, they expect to have greater purchasing power from their increased nominal wage levels, but as prices they pay have increased; they falsely blame inflation for the lack of this.Another negative psychological effect of inflation, with little economic cost is the varying price level causes unease. People see currency as a measure, so the variance of its price level results in apprehension as if the actual length of a meter were changed (Taylor). This results in people finding it hard to adjust their concept of what is a fair price.The costs of inflation depend greatly upon the sources of the inflation, as different causes of inflation, affect different things differently, for instance an exogenous wage push, will have different effects than an oil price increase. (Fischer). Also, maybe even more importantly, whether or when the inflation was anticipated, and the institutional structure of the economy. To fully talk about the costs of inflation it is...

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