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Today, most economists favor a low and steady rate of inflation.<ref name="econjournalwatch.org">Hummel, Jeffrey Rogers. "Death and Taxes, Including Inflation: the Public versus Economists" (January 2007).[http://econjwatch.org/articles/death-and-taxes-including-inflation-the-public-versus-economists] p. 56</ref> Low (as opposed to zero or [[Deflation|negative]]) inflation reduces the severity of economic [[recessions]] by enabling the labor market to adjust more quickly in a downturn, and reduces the risk that a [[liquidity trap]] prevents [[monetary policy]] from stabilizing the economy.<ref name="aeaweb.org">"[http://www.aeaweb.org/articles.php?doi=10.1257/089533003772034934 Escaping from a Liquidity Trap and Deflation: The Foolproof Way and Others]" Lars E.O. Svensson, ''Journal of Economic Perspectives'', Volume 17, Issue 4 Fall 2003, pp. 145–166</ref> The task of keeping the rate of inflation low and stable is usually given to [[monetary authority|monetary authorities]]. Generally, these monetary authorities are the [[central bank]]s that control monetary policy through the setting of [[interest rate]]s, through [[open market operation]]s, and through the setting of banking [[reserve requirements]].<ref name=Taylor>{{Cite book |last = Taylor |first=Timothy |title=Principles of Economics |publisher=Freeload Press |date=2008 |isbn=978-1-930789-05-0}}</ref>
==
The term "inflation" originally referred to a rise in the general price level caused by an imbalance between the quantity of money and trade needs.<ref>Bryan, Michael F., 1997. "On the Origin and Evolution of the Word Inflation," ''Federal Reserve Bank of Cleveland, Economic Commentary,'' 10.15.1997. https://www.clevelandfed.org/newsroom-and-events/publications/economic-commentary/economic-commentary-archives/1997-economic-commentaries/ec-19971015-on-the-origin-and-evolution-of-the-word-inflation.aspx</ref> However, economists today commonly use the term "inflation" to refer to increases in the price level. An increase in the money supply may be called [[monetary inflation]], to distinguish it from rising prices, which for clarity may be called "[[price inflation]]".<ref name="Bryan"/> Economists generally agree that in the long run, price inflation is related to increases in the money supply.<ref name="federalreserve2004/hh/2004/july/testimony.htm"> Federal Reserve Board's semiannual Monetary Policy Report to the Congress. Introductory statement by Jean-Claude Trichet on July 1, 2004</ref>▼
Conceptually, inflation refers to the general trend of prices, not changes in any specific price. For example, if people choose to buy more cucumbers than tomatoes, cucumbers consequently become more expensive and tomatoes cheaper. These changes are not related to inflation; they reflect a shift in tastes. Inflation is related to the value of currency itself. When currency was linked with gold, if new gold deposits were found, the price of gold and the value of currency would fall, and consequently, prices of all other goods would become higher.<ref>{{cite web|url=https://www.vox.com/cards/inflation-definition-and-explanation/inflation-explanation|title=What is inflation? – Inflation, explained – Vox|date=July 25, 2014|work=Vox|access-date=September 13, 2014}}</ref>▼
Other economic concepts related to inflation include: [[deflation]]{{snd}}a fall in the general price level; [[disinflation]]{{snd}}a decrease in the rate of inflation; [[hyperinflation]]{{snd}}an out-of-control inflationary spiral; [[stagflation]]{{snd}}a combination of inflation, slow economic growth and high unemployment; [[reflation]]{{snd}}an attempt to raise the general level of prices to counteract deflationary pressures; and [[asset price inflation]]{{snd}}a general rise in the prices of financial assets without a corresponding increase in the prices of goods or services.▼
== Background ==
===Classical economics===
By the nineteenth century, economists categorized three separate factors that cause a rise or fall in the price of goods: a change in the ''[[Value (economics)|value]]'' or production costs of the good, a change in the ''price of money'' which then was usually a fluctuation in the [[commodity]] price of the metallic content in the currency, and ''currency depreciation'' resulting from an increased supply of currency relative to the quantity of redeemable metal backing the currency. Following the proliferation of private [[banknote]] currency printed during the [[American Civil War]], the term "inflation" started to appear as a direct reference to the ''currency depreciation'' that occurred as the quantity of redeemable banknotes outstripped the quantity of metal available for their redemption. At that time, the term inflation referred to the [[devaluation]] of the currency, and not to a rise in the price of goods.<ref name="Bryan">{{cite web|first=Michael F. |last=Bryan|url=https://www.clevelandfed.org/newsroom-and-events/publications/economic-commentary/economic-commentary-archives/1997-economic-commentaries/ec-19971015-on-the-origin-and-evolution-of-the-word-inflation.aspx|publisher=Federal Reserve Bank of Cleveland, Economic Commentary|date=October 15, 1997|title=On the Origin and Evolution of the Word "Inflation"}}</ref>▼
This relationship between the over-supply of banknotes and a resulting [[depreciation]] in their value was noted by earlier classical economists such as [[David Hume]] and [[David Ricardo]], who would go on to examine and debate what effect a currency devaluation (later termed ''[[monetary inflation]]'') has on the price of goods (later termed ''price inflation'', and eventually just ''inflation'').<ref>Mark Blaug, "[https://books.google.com/books?id=4nd6alor2goC&pg=PA127&lpg=PA127&dq=bullionist+inflation&source=web&ots=mG3_PT_O6q&sig=ViD-klPJPpaZxCBjdcPKh9zlwyU&hl=en&sa=X&oi=book_result&resnum=5&ct=result#PPA128,M1 Economic Theory in Retrospect]", pg. 129: "...this was the cause of inflation, or, to use the language of the day, 'the depreciation of banknotes.'"</ref>▼
===Money supply===
Historically, large infusions of gold or silver into an economy had led to inflation. For instance, when silver was used as currency, the government could collect silver coins, melt them down, mix them with other metals such as copper or lead and reissue them at the same [[Real versus nominal value (economics)|nominal value]], a process known as [[debasement]]. At the ascent of [[Nero]] as Roman emperor in AD 54, the [[denarius]] contained more than 90% silver, but by the 270s hardly any silver was left. By diluting the silver with other metals, the government could issue more coins without increasing the amount of silver used to make them. When the cost of each coin is lowered in this way, the government profits from an increase in [[seigniorage]].<ref>{{cite web|url=http://www.mint.ca/royalcanadianmintpublic/RcmImageLibrary.aspx?filename=RCM_AR06_E.pdf |title=Annual Report (2006), Royal Canadian Mint, p. 4 |publisher=Mint.ca |access-date=May 21, 2011}}</ref> This practice would increase the money supply but at the same time the relative value of each coin would be lowered. As the relative value of the coins becomes lower, consumers would need to give more coins in exchange for the same goods and services as before. These goods and services would experience a price increase as the value of each coin is reduced.<ref>Frank Shostak, "[https://mises.org/story/3018 Commodity Prices and Inflation: What's the connection", Mises Institute]</ref>
The adoption of [[fiat currency]] by many countries, from the 18th century onwards, made much larger variations in the supply of money possible. Rapid increases in the [[money supply]] have taken place a number of times in countries experiencing political crises, producing [[hyperinflation]]s{{snd}} episodes of extreme inflation rates much higher than those observed in earlier periods of [[commodity money]]. The [[hyperinflation in the Weimar Republic]] of Germany is a notable example. Currently, the hyperinflation in [[Venezuela]] is the highest in the world, with an annual inflation rate of 833,997% as of October 2018.<ref>{{cite news |last1=Corina |first1=Pons |last2=Luc |first2=Cohen |last3=O'Brien |first3=Rosalba |title=Venezuela's annual inflation hit 833,997 percent in October: Congress |url=https://www.reuters.com/article/us-venezuela-economy/venezuelas-annual-inflation-hit-833997-percent-in-october-congress-idUSKCN1NC2F9 |access-date=9 November 2018 |work=Reuters |date=7 November 2018}}</ref>▼
However, since the 1980s, inflation has been held low and stable in countries with strong independent [[central bank]]s. This has led to a moderation of the [[business cycle]] and a reduction in variation in most macroeconomic indicators - an event known as the [[Great Moderation]].<ref>{{cite news |url= http://www.timesonline.co.uk/tol/comment/columnists/article1294376.ece |title=Welcome to 'the Great Moderation' |first=Gerard |last=Baker |work=The Times |date=2007-01-19 |publisher=Times Newspapers |location=[[London, England|London]] |issn=0140-0460 |access-date=15 April 2011}}</ref>▼
==History==
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Rapid increases in the quantity of money or in the overall [[money supply]] have occurred in many different societies throughout history, changing with different forms of money used.<ref>{{Cite news|last=Dobson |first=Roger |title=How Alexander caused a great Babylon inflation |newspaper=[[The Independent]] |date=January 27, 2002 |url=https://www.independent.co.uk/news/world/europe/how-alexander-caused-a-great-babylon-inflation-671072.html |archive-url=https://web.archive.org/web/20110515070120/http://www.independent.co.uk/news/world/europe/how-alexander-caused-a-great-babylon-inflation-671072.html |archive-date=May 15, 2011 |access-date=April 12, 2010 |url-status=dead |df=mdy-all }}</ref><ref>{{Cite book | last = Harl | first = Kenneth W. | author-link = Kenneth W. Harl | title = Coinage in the Roman Economy, 300 B.C. to A.D. 700 | place = [[Baltimore]] | publisher = [[The Johns Hopkins University Press]] | date = June 19, 1996 | isbn = 0-8018-5291-9 }}</ref>
===Ancient China===
[[Song Dynasty]] China introduced the practice of printing paper money to create [[fiat currency]].<ref name="Glahn">{{cite book|author=Richard von Glahn|title=Fountain of Fortune: Money and Monetary Policy in China, 1000–1700|date=December 27, 1996|publisher=University of California Press|isbn=978-0-520-20408-9|page=48}}</ref> During the Mongol [[Yuan Dynasty]], the government spent a great deal of money fighting [[Mongol conquests|costly wars]], and reacted by printing more money, leading to inflation.<ref name="Ropp2010">{{cite book|author=Paul S. Ropp|title=China in World History|date=July 9, 2010|publisher=Oxford University Press|isbn=978-0-19-517073-3|pages=82}}</ref> Fearing the inflation that plagued the Yuan dynasty, the [[Ming Dynasty]] initially rejected the use of paper money, and reverted to using copper coins.<ref name="Bernholz">{{cite book|author=Peter Bernholz|title=Monetary Regimes and Inflation: History, Economic and Political Relationships|year=2003|publisher=Edward Elgar Publishing|isbn=978-1-84376-155-6|pages=53–55}}</ref>
===Medieval Egypt===
{{quote|Gold was at a high price in Egypt until they came in that year. The mithqal did not go below 25 dirhams and was generally above, but from that time its value fell and it cheapened in price and has remained cheap till now. The mithqal does not exceed 22 dirhams or less. This has been the state of affairs for about twelve years until this day by reason of the large amount of gold which they brought into Egypt and spent there [...].|sign=[[Chihab Al-Umari]]|source=Kingdom of Mali<ref>{{cite web |title=Kingdom of Mali – Primary Source Documents |url=http://www.bu.edu/africa/outreach/resources/k_o_mali/ |website=African studies Center |publisher=[[Boston University]] |access-date=30 January 2012}}</ref>}}
==="Price revolution" in Western Europe===
From the second half of the 15th century to the first half of the 17th, Western Europe experienced a major inflationary cycle referred to as the "[[price revolution]]",<ref>[[Earl J. Hamilton]], ''American Treasure and the Price Revolution in Spain, 1501–1650'' Harvard Economic Studies, 43 (Cambridge, Massachusetts: [[Harvard University Press]], 1934)</ref><ref>[http://www.chass.utoronto.ca/ecipa/archive/UT-ECIPA-MUNRO-99-02.pdf John Munro: ''The Monetary Origins of the 'Price Revolution':South Germany Silver Mining, Merchant Banking, and Venetian Commerce, 1470–1540'', Toronto 2003] {{webarchive |url=https://web.archive.org/web/20090306002320/http://www.chass.utoronto.ca/ecipa/archive/UT-ECIPA-MUNRO-99-02.pdf |date=March 6, 2009 }}</ref> with prices on average rising perhaps sixfold over 150 years. This was largely caused by the sudden influx of gold and silver from the [[New World]] into [[Habsburg Spain]].<ref>{{cite book |author=Walton, Timothy R. |title=The Spanish Treasure Fleets |publisher=Pineapple Press (FL) |year= 1994|page=85 |isbn=1-56164-049-2 }}</ref> The silver spread throughout a previously [[Commercial revolution|cash-starved Europe]] and caused widespread inflation.<ref>[https://ideas.repec.org/p/bsl/wpaper/2007-12.html The Price Revolution in Europe: Empirical Results from a Structural Vectorautoregression Model. Peter Kugler and Peter Bernholz, University of Basel, 2007]</ref><ref>{{cite book |author=Tracy, James D. |title=Handbook of European History 1400–1600: Late Middle Ages, Renaissance, and Reformation |publisher=Brill Academic Publishers |location=Boston |year= 1994|page=655 |isbn=90-04-09762-7 }}</ref> Demographic factors also contributed to upward pressure on prices, with European population growth after depopulation caused by the [[Black Death]] pandemic.
▲By the nineteenth century, economists categorized three separate factors that cause a rise or fall in the price of goods: a change in the ''[[Value (economics)|value]]'' or production costs of the good, a change in the ''price of money'' which then was usually a fluctuation in the [[commodity]] price of the metallic content in the currency, and ''currency depreciation'' resulting from an increased supply of currency relative to the quantity of redeemable metal backing the currency. Following the proliferation of private [[banknote]] currency printed during the [[American Civil War]], the term "inflation" started to appear as a direct reference to the ''currency depreciation'' that occurred as the quantity of redeemable banknotes outstripped the quantity of metal available for their redemption. At that time, the term inflation referred to the [[devaluation]] of the currency, and not to a rise in the price of goods.<ref name="Bryan">{{cite web|first=Michael F. |last=Bryan|url=https://www.clevelandfed.org/newsroom-and-events/publications/economic-commentary/economic-commentary-archives/1997-economic-commentaries/ec-19971015-on-the-origin-and-evolution-of-the-word-inflation.aspx|publisher=Federal Reserve Bank of Cleveland, Economic Commentary|date=October 15, 1997|title=On the Origin and Evolution of the Word "Inflation"}}</ref>
▲This relationship between the over-supply of banknotes and a resulting [[depreciation]] in their value was noted by earlier classical economists such as [[David Hume]] and [[David Ricardo]], who would go on to examine and debate what effect a currency devaluation (later termed ''[[monetary inflation]]'') has on the price of goods (later termed ''price inflation'', and eventually just ''inflation'').<ref>Mark Blaug, "[https://books.google.com/books?id=4nd6alor2goC&pg=PA127&lpg=PA127&dq=bullionist+inflation&source=web&ots=mG3_PT_O6q&sig=ViD-klPJPpaZxCBjdcPKh9zlwyU&hl=en&sa=X&oi=book_result&resnum=5&ct=result#PPA128,M1 Economic Theory in Retrospect]", pg. 129: "...this was the cause of inflation, or, to use the language of the day, 'the depreciation of banknotes.'"</ref>
▲The adoption of [[fiat currency]] by many countries, from the 18th century onwards, made much larger variations in the supply of money possible. Rapid increases in the [[money supply]] have taken place a number of times in countries experiencing political crises, producing [[hyperinflation]]s{{snd}} episodes of extreme inflation rates much higher than those observed in earlier periods of [[commodity money]]. The [[hyperinflation in the Weimar Republic]] of Germany is a notable example. Currently, the hyperinflation in [[Venezuela]] is the highest in the world, with an annual inflation rate of 833,997% as of October 2018.<ref>{{cite news |last1=Corina |first1=Pons |last2=Luc |first2=Cohen |last3=O'Brien |first3=Rosalba |title=Venezuela's annual inflation hit 833,997 percent in October: Congress |url=https://www.reuters.com/article/us-venezuela-economy/venezuelas-annual-inflation-hit-833997-percent-in-october-congress-idUSKCN1NC2F9 |access-date=9 November 2018 |work=Reuters |date=7 November 2018}}</ref>
▲However, since the 1980s, inflation has been held low and stable in countries with strong independent [[central bank]]s. This has led to a moderation of the [[business cycle]] and a reduction in variation in most macroeconomic indicators - an event known as the [[Great Moderation]].<ref>{{cite news |url= http://www.timesonline.co.uk/tol/comment/columnists/article1294376.ece |title=Welcome to 'the Great Moderation' |first=Gerard |last=Baker |work=The Times |date=2007-01-19 |publisher=Times Newspapers |location=[[London, England|London]] |issn=0140-0460 |access-date=15 April 2011}}</ref>
▲The term "inflation" originally referred to a rise in the general price level caused by an imbalance between the quantity of money and trade needs.<ref>Bryan, Michael F., 1997. "On the Origin and Evolution of the Word Inflation," ''Federal Reserve Bank of Cleveland, Economic Commentary,'' 10.15.1997. https://www.clevelandfed.org/newsroom-and-events/publications/economic-commentary/economic-commentary-archives/1997-economic-commentaries/ec-19971015-on-the-origin-and-evolution-of-the-word-inflation.aspx</ref> However, economists today commonly use the term "inflation" to refer to increases in the price level. An increase in the money supply may be called [[monetary inflation]], to distinguish it from rising prices, which for clarity may be called "[[price inflation]]".<ref name="Bryan"/> Economists generally agree that in the long run, price inflation is related to increases in the money supply.<ref name="federalreserve2004/hh/2004/july/testimony.htm"> Federal Reserve Board's semiannual Monetary Policy Report to the Congress. Introductory statement by Jean-Claude Trichet on July 1, 2004</ref>
▲Conceptually, inflation refers to the general trend of prices, not changes in any specific price. For example, if people choose to buy more cucumbers than tomatoes, cucumbers consequently become more expensive and tomatoes cheaper. These changes are not related to inflation; they reflect a shift in tastes. Inflation is related to the value of currency itself. When currency was linked with gold, if new gold deposits were found, the price of gold and the value of currency would fall, and consequently, prices of all other goods would become higher.<ref>{{cite web|url=https://www.vox.com/cards/inflation-definition-and-explanation/inflation-explanation|title=What is inflation? – Inflation, explained – Vox|date=July 25, 2014|work=Vox|access-date=September 13, 2014}}</ref>
▲Other economic concepts related to inflation include: [[deflation]]{{snd}}a fall in the general price level; [[disinflation]]{{snd}}a decrease in the rate of inflation; [[hyperinflation]]{{snd}}an out-of-control inflationary spiral; [[stagflation]]{{snd}}a combination of inflation, slow economic growth and high unemployment; [[reflation]]{{snd}}an attempt to raise the general level of prices to counteract deflationary pressures; and [[asset price inflation]]{{snd}}a general rise in the prices of financial assets without a corresponding increase in the prices of goods or services.
===Inflation expectations===▼
Inflation expectations or expected inflation is the rate of inflation that is anticipated for some period of time in the foreseeable future. There are two major approaches to modeling the formation of inflation expectations. [[Adaptive expectations]] models them as a weighted average of what was expected one period earlier and the actual rate of inflation that most recently occurred. [[Rational expectations]] models them as unbiased, in the sense that the expected inflation rate is not systematically above or systematically below the inflation rate that actually occurs.▼
A long-standing survey of inflation expectations is the University of Michigan survey.<ref>{{cite web|url=https://fred.stlouisfed.org/series/MICH|title=University of Michigan: Inflation Expectation|publisher=Economic Research, Federal Reserve Bank of St. Louis}}</ref>▼
Inflation expectations affect the economy in several ways. They are more or less built into [[nominal interest rate]]s, so that a rise (or fall) in the expected inflation rate will typically result in a rise (or fall) in nominal interest rates, giving a smaller effect if any on [[real interest rate]]s. In addition, higher expected inflation tends to be built into the rate of wage increases, giving a smaller effect if any on the changes in [[real wages]]. Moreover, the response of inflationary expectations to monetary policy can influence the division of the effects of policy between inflation and unemployment (see [[Monetary policy credibility]]).▼
== Measures ==
Line 102 ⟶ 103:
Most inflation indices are calculated from weighted averages of selected price changes. This necessarily introduces distortion, and can lead to legitimate disputes about what the true inflation rate is. This problem can be overcome by including all available price changes in the calculation, and then choosing the [[median]] value.<ref>{{cite web |url=http://www.clevelandfed.org/Research/commentary/1991/1201.pdf |title=Median Price Changes: An Alternative Approach to Measuring Current Monetary Inflation |access-date=May 21, 2011 |url-status=dead |archive-url=https://web.archive.org/web/20110515145028/http://www.clevelandfed.org/Research/commentary/1991/1201.pdf |archive-date=May 15, 2011 |df=mdy-all }}</ref> In some other cases, governments may intentionally report false inflation rates; for instance, during the presidency of [[Cristina Kirchner]] (2007–2015) the [[government of Argentina]] was criticised for manipulating economic data, such as inflation and GDP figures, for political gain and to reduce payments on its inflation-indexed debt.<ref>{{cite web|url=https://www.reuters.com/article/2013/02/02/us-imf-argentina-idUSBRE91019920130202 |title=IMF reprimands Argentina for inaccurate economic data |access-date=February 2, 2013}}</ref><ref>{{cite web|url=https://www.bloomberg.com/news/2013-02-01/argentina-becomes-first-nation-censured-by-imf-on-inflation-data.html |title=Argentina Becomes First Nation Censured by IMF on Economic Data |access-date=February 2, 2013}}</ref>
▲===Inflation expectations===
▲Inflation expectations or expected inflation is the rate of inflation that is anticipated for some period of time in the foreseeable future. There are two major approaches to modeling the formation of inflation expectations. [[Adaptive expectations]] models them as a weighted average of what was expected one period earlier and the actual rate of inflation that most recently occurred. [[Rational expectations]] models them as unbiased, in the sense that the expected inflation rate is not systematically above or systematically below the inflation rate that actually occurs.
▲A long-standing survey of inflation expectations is the University of Michigan survey.<ref>{{cite web|url=https://fred.stlouisfed.org/series/MICH|title=University of Michigan: Inflation Expectation|publisher=Economic Research, Federal Reserve Bank of St. Louis}}</ref>
▲Inflation expectations affect the economy in several ways. They are more or less built into [[nominal interest rate]]s, so that a rise (or fall) in the expected inflation rate will typically result in a rise (or fall) in nominal interest rates, giving a smaller effect if any on [[real interest rate]]s. In addition, higher expected inflation tends to be built into the rate of wage increases, giving a smaller effect if any on the changes in [[real wages]]. Moreover, the response of inflationary expectations to monetary policy can influence the division of the effects of policy between inflation and unemployment (see [[Monetary policy credibility]]).
== Causes ==
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