Causes+of+Inflation

=Causes of Inflation = Economists divide inflation into two general categories based on cause:

** Demand-pull Inflation **
 * Prices are //pulled// up by high demand
 * Occurs when aggregate demand increases faster than the economy's productive capacity
 * Prices increase when quantity demanded exceeds quantity supplied
 * As demand continues to increase, the prices of goods are //pulled// even higher
 * Can result from an increase in the money supply or an increase in the use of credit
 * When the Federal Reserve System increases the supply of money and credit, aggregate demand increases as consumers, businesses, and governments purchase more goods
 * Spending exceeds the available supply of goods ---> demand-pull inflation results
 * Cost-push Inflation **
 * Prices are //pushed// up by high production costs
 * Occurs when producers raise prices to cover higher resource costs
 * Producers must set prices high enough to cover their costs and to earn a profit
 * Can be caused by a ** supply shock **:
 * An event that increases the cost of production for all or many firms, resulting in overall higher prices
 * <span style="font-family: 'Lucida Sans Unicode', 'Lucida Grande', sans-serif;">Crop failures, natural disasters, and political upheavals can cause supply shocks
 * <span style="font-family: 'Lucida Sans Unicode', 'Lucida Grande', sans-serif;">Caused by the ** wage-price spiral **:
 * <span style="font-family: 'Lucida Sans Unicode', 'Lucida Grande', sans-serif;">a cycle that develops when increased wages raise production costs, which then lead to higher prices for goods and services

<span style="font-family: 'Lucida Sans Unicode', 'Lucida Grande', sans-serif;">** Price Expectations **
 * <span style="font-family: 'Lucida Sans Unicode', 'Lucida Grande', sans-serif;">When consumers expect prices to increase, they tend to buy immediately to take advantage of lower prices ---> aggregate demand increases ---> inflation rises
 * <span style="font-family: 'Lucida Sans Unicode', 'Lucida Grande', sans-serif;">When consumers expect future prices to be lower, they are likely to postpone buying ---> aggregate demand decreases ---> inflation slows
 * <span style="font-family: 'Lucida Sans Unicode', 'Lucida Grande', sans-serif;">When producers expect inflation to increase, they raise prices. As prices continue to rise, consumers' and producers' expectations of future inflation grow even more, and prices spiral upward [[image:dollar_avatar_tiny_square.jpg align="right" caption="HOME" link="home"]]