Causes of Inflation
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rhymenocerous
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Causes of Inflation
I understand the theoretical argument that printing too much money causes its value to go down due to supply and demand. However, on a practical level, let's say that in an economy of 100 people the government prints an extra $1mil and gives $10k to each person. Could someone describe how this extra money would move/changes hands in order to cause higher prices/wages?
Re: Causes of Inflation
People would have to spend it for it to cause inflation.
If people simply buried it in their backyards, no price inflation would occur.
Thus, the printing money part is only part of the story. You have to know what happens to the money after it is printed.
If people simply buried it in their backyards, no price inflation would occur.
Thus, the printing money part is only part of the story. You have to know what happens to the money after it is printed.
Q: “Do you have funny shaped balloons?”
A: “Not unless round is funny.”
A: “Not unless round is funny.”
Re: Causes of Inflation
Also, lending amongst the members of this society could cause inflation.
If person A wants to save his money for a rainy day and stuffs it under his mattress, you won't have inflation, as MT said...
But if Person A wants to save $500 of his money, puts it in the bank, and the bank loans it to person B, then you may see that inflation again.
Assuming person B is a factory owner, he may be adding on a facility to meet excess demand. Assuming person B is a consumer, he might need/want a house or a car. Either way, this money is now starting to drive the economy again, but Person A thinks of it as savings... something he can get if he wants, no matter what.
Even more interesting... if the bank has an IOU (note) from person B saying he'll pay them back, they can theoretically take that note to Person C and pay Person C with it to come install a new statue of Ben Bernanke out front. If Person C (and others in this society) are confident enough in person B, this note might also act as a sufficient form of money. Person C had to split the note up in pieces though, and use some of it to buy his clay/concrete from person D.
So now, with the same $500, we have $500 in savings from Person A (something he thinks he can have tommorow if he needs it), a $500 car bought for person B, and a $500 statue bought for the bank.
As you can see, this multiplier effect can maybe cause inflation and encourage economic activity. Likewise, a reversal of this process will cause deflation and a possible depression.
Lastly, an artificial support of this process can encourage people to enter into these arrangement with way too much carelessness, and not think about whether the asset they're purchasing can really service the debt they're taking on, especially if this system starts to collapse... If the economy in this example really only has $1 million physical green dollars, but it's resulted in an expansion of credit, or "promises to pay," that makes the economy "feel" like it has $5 million, then it definitely depends on the status of that credit to decide what the realistic "money supply" is. Once a contraction of credit begins, it could set off a wave of inserviceable debt that induces people to continue to want to pay off these promises to pay with actual, green dollars.
Maybe this is more a story of deflation than inflation... but basically the collective will of a society to want to take on or pay off debt will have a huge impact on what one may think of as a "real money supply."
If person A wants to save his money for a rainy day and stuffs it under his mattress, you won't have inflation, as MT said...
But if Person A wants to save $500 of his money, puts it in the bank, and the bank loans it to person B, then you may see that inflation again.
Assuming person B is a factory owner, he may be adding on a facility to meet excess demand. Assuming person B is a consumer, he might need/want a house or a car. Either way, this money is now starting to drive the economy again, but Person A thinks of it as savings... something he can get if he wants, no matter what.
Even more interesting... if the bank has an IOU (note) from person B saying he'll pay them back, they can theoretically take that note to Person C and pay Person C with it to come install a new statue of Ben Bernanke out front. If Person C (and others in this society) are confident enough in person B, this note might also act as a sufficient form of money. Person C had to split the note up in pieces though, and use some of it to buy his clay/concrete from person D.
So now, with the same $500, we have $500 in savings from Person A (something he thinks he can have tommorow if he needs it), a $500 car bought for person B, and a $500 statue bought for the bank.
As you can see, this multiplier effect can maybe cause inflation and encourage economic activity. Likewise, a reversal of this process will cause deflation and a possible depression.
Lastly, an artificial support of this process can encourage people to enter into these arrangement with way too much carelessness, and not think about whether the asset they're purchasing can really service the debt they're taking on, especially if this system starts to collapse... If the economy in this example really only has $1 million physical green dollars, but it's resulted in an expansion of credit, or "promises to pay," that makes the economy "feel" like it has $5 million, then it definitely depends on the status of that credit to decide what the realistic "money supply" is. Once a contraction of credit begins, it could set off a wave of inserviceable debt that induces people to continue to want to pay off these promises to pay with actual, green dollars.
Maybe this is more a story of deflation than inflation... but basically the collective will of a society to want to take on or pay off debt will have a huge impact on what one may think of as a "real money supply."
"Men did not make the earth. It is the value of the improvements only, and not the earth itself, that is individual property. Every proprietor owes to the community a ground rent for the land which he holds."
- Thomas Paine
- Thomas Paine
Re: Causes of Inflation
Yes, if it were just burried, it wouldn't lead to inflation. But in the real world, that $10k would be spent and invested in some combination, which would lead to price/wage inflation.MediumTex wrote: People would have to spend it for it to cause inflation.
If people simply buried it in their backyards, no price inflation would occur.
Thus, the printing money part is only part of the story. You have to know what happens to the money after it is printed.
Re: Causes of Inflation
Perhaps, but not necessarily.clacy wrote:Yes, if it were just burried, it wouldn't lead to inflation. But in the real world, that $10k would be spent and invested in some combination, which would lead to price/wage inflation.MediumTex wrote: People would have to spend it for it to cause inflation.
If people simply buried it in their backyards, no price inflation would occur.
Thus, the printing money part is only part of the story. You have to know what happens to the money after it is printed.
If I use the $10k to pay off a debt and the bank leaves the money on its balance sheet to offset losses in other parts of its loan portfolio (as opposed to using it for new loans) then the effect is exactly the same as if I buried it in my backyard (in both cases the money does not get into circulation).
Paying off debt is a very realistic use of such a $10k windfall and I'll bet that's what a lot of people would use it for.
Q: “Do you have funny shaped balloons?”
A: “Not unless round is funny.”
A: “Not unless round is funny.”
Re: Causes of Inflation
As you can see by the answers thus far, you first have to define inflation.rhymenocerous wrote: I understand the theoretical argument that printing too much money causes its value to go down due to supply and demand. However, on a practical level, let's say that in an economy of 100 people the government prints an extra $1mil and gives $10k to each person. Could someone describe how this extra money would move/changes hands in order to cause higher prices/wages?
Some people define inflation as an increase in prices.
Some people say you detect inflation by an increase in prices in a basket of goods (e.g. the Consumer Price Index).
Austrian Economics defines inflation as an increase in the supply of money. This increase may in turn lead to an increase in prices, but it may not. Prices may go down, but not as far as they would have had the money supply been constant. Some prices may go up, and others may go down or they all may go up at varying rates. From the Austrian perspective, the change in prices is irrelevant to the issue of inflation.