Experts are saying that a significant rise in inflation is on the horizon . While this may be true, that may not necessarily be a bad thing. Inflation is the decrease in the purchasing power of a currency caused by an increased supply of that currency in the market. The effect of inflation that the public is most aware of is rising prices; what costs $1 now might cost $2 next year. However, this is just one of several effects inflation has on the economy, and lots of them are beneficial.
The first and somewhat nonobvious benefit of a steady inflation is that that steady growth of prices is mirrored in wages & salaries. When there is more money supply in the market, people are paid more. While the purchasing power of their new salary is effectively the same as it was before the raise, it nevertheless has a positive impact on overall attitude and morale when a person receives a raise. They feel like they have more money, even if that money isn’t worth as much.
This effect also comes into play with people who are paying back fixed-rate mortgages. The mortgages’ interest rates & monthly payments do not adjust for inflation, so when people’s wages or salaries go up, they have more money because they’re still spending a fixed amount on their mortgages. This also causes the value of the money people pay on their mortgages being worth less, so people effectively have more money in their pockets, even when adjusted for inflation. Simply put, the mortgage payments are easier to make because the value of the mortgage is depreciating with inflation while salaries are not.
Furthermore, economist A.W. H. Phillips concluded through his research that inflation and unemployment rates are negatively correlated, meaning that as inflation rises unemployment rates decrease . This is because, according to Phillips, as wages (including nominal wages) are increasing, people are more inclined to enter the workforce & get jobs5. Based on this, we can expect that should inflation rise, unemployment rates should drop.
As well, a higher rate of inflation is an indicator that the government is spending more money. Whether or not that is a good thing is subject to one’s own interpretation, but it cannot be denied that government spending stimulates the economy in the short run. Because the increased supply of money is caused by the printing of more currency by the federal government, the federal government is the first party that gets to spend it . That money that is spent is then distributed to people as their income, which they then spend on goods and services, and so on. This effect is known as the government spending multiplier . So, one additional benefit that could be gained from inflation is an increase in government spending.
This is all said with the assumption that inflation rates are at a relatively stable level, which economists estimate to be less than 10%. Luckily, even in this time of high forecasted inflation, the Federal Reserve only expects an inflation rate of 3.4%, even with the increased spending due to the Covid pandemic6. Because the rate is staying at such a lower number, then Americans, in my opinion, do not have anything to worry about. People fear the increased prices for goods & services but do not take the time to realize the benefits that inflation can have.
Watts, W. (2021, April 8). The biggest ‘inflation scare’ in 40 years is coming – what stock-market investors need to know. MarketWatch. https://www.marketwatch.com/story/the-biggest-inflation-scare-in-40-years-is-coming-what-stock-market-investors-need-to-know-11617846712.
Sanchez, J. (2016, May 31). The Relationship between Wage Growth and Inflation. Federal Reserve Bank of St. Ls. https://www.stlouisfed.org/on-the-economy/2015/november/relationship-between-wage-growth-inflation.
Hoover, K. D. (2018, February 5). Phillips Curve. Econlib. https://www.econlib.org/library/Enc/PhillipsCurve.html.
Dutta, Nikita. (August 10, 2015) Government Expenditure Multiplier: G-Multiplier (With Diagram). Economics Discussion. https://www.economicsdiscussion.net/theory-of-income/government-expenditure-multiplier-g-multiplier-with-diagram/6366.
Foy, M. (2019, September). Is the Phillips Curve Still a Useful Guide for Policymakers? NBER. https://www.nber.org/digest/sep19/phillips-curve-still-useful-guide-policymakers.
Siegel, R., & Stein, J. (2021, June 16). Fed estimates inflation will grow faster than projected just 3 months ago and moves up expectations for rate hike. The Washington Post. https://www.washingtonpost.com/us-policy/2021/06/16/fed-powell-inflation-unemployment-june-meeting/.
