Inflation and Output - Essay Example

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Inflation and Output

In economics the term ‘inflation’ generally describes the prevailing annual rate at which the prices of goods and services are increasing. However, it is a common lace that all prices tend to rise at broadly the same rate; thus, when prices of domestic goods and services are rising fast this will generally be true also of wages, of the prices of the imported goods, of the money supply and of the prices of assets. This is because inflation is one sector of the economy permeates rapidly into other sectors. The phrase “a high rate of inflation” therefore usually describes a situation in which the money values of all goods in an economy are rising at a fast rate. The view commonly taken is that inflation should be kept close to zero; prices should rise at no more than about 2 to 3 percent a year on average. This is because high inflation affects the economy adversely in a number of ways. For example, it distorts the income distribution; because of the difficulty and risk associated with the complete index-linking of pensions tend to suffer. Also, it biases investment decisions: the cost of borrowing money rises making debt finance expensive in the early years of a project and reducing the incentive to invest. In theory inflation accounting could correct for this, but in practice this has proved difficult to implement. ...Show more

Summary

In order to use policy instruments to prevent inflation from rising, or to reduce it where there has been an increase, it is necessary to understand as fully as possible the process that create it, the way in which it perpetuates itself, and the circumstances in which it declines…
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Inflation and Output essay example
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