Inflation is defined as the sustained rate in the increase in overall prices within an extended period of time. Furthermore, due to its persistent prevalence in our daily lives, economists are now able to derive both the costs and benefits of subsequent inflation. In the UK, the Bank of England aims for 2% inflation annually in order to keep the economy working at maximum efficiency and in order to soften the impending costs of inflation whilst highlighting its various benefits. Moreover, the effects of inflation - no matter good or bad - are largely controlled by parliament as they decide to what degree policies should be introduced and to what degree items are taxed. It is important to note that inflation rates increase as a result of higher wages and thus increasing disposable income and thus subsequent aggregate demand, signalling to firms to increase the price of their goods in order to maximise their utility and profit margins.
Last year in the UK, inflation was measured at 6.7%, a solid 4.7% above the aim set out by the Bank of England. The negative impacts of such can further be explained through the rise of unanticipated inflation, making both producers/consumers unprepared to deal with higher prices due to incorrect signalling and thus resulting in the misallocation of their resources. These inconveniences can be shown greatly through daily economic activities which are then thus disrupted,for example, menu costs and shoe leather costs which greatly disrupt daily life and also create an opportunity cost as the individual could be doing something else with their valuable time. Moreover, inflation can have larger negative impacts such as political unrest as differing parties in the UK parliament may have two different approaches to the combatting of inflation as the cost of living increases. This not only creates unrest in parliament but further induces worry and confusion into the quotidian lives of British civilians as not only does inflation put a strain on household finances, but the uncertainty of how to manage it further induces a sense of panic. It is also beneficial to note that the cost of inflation is felt further if it is unanticipated seeing as there would have been a misallocation of resources due to the surprising nature of the inflation. This would further lead to political unrest seeing as firms would place blame on parliament for the misallocation of resources and lack of signalling and thus create havoc for the country. Daily life is further interrupted by the input of menu costs, the constant need to rearrange prices in order to correctly adhere to inflation rates is evidently unproductive, and thus creates an opportunity cost as an individual could be working instead and thus bettering the economy. Another opportunity cost is highlighted through shoe leather costs, these arise when the individual searches for the best price for a product showing an evident waste of time, again instead they could be working to give back into the economy and further economic growth. Overall it is clear consumers don't benefit greatly from the influx of inflation as it stunts the ease at which one can do daily activities as well as they once did, more time is wasted than necessary thus creating an opportunity cost in the daily lives of all.
On the contrary, however, inflation can encourage individuals to stop saving and to instead spend, thus increasing aggregate demand. This is largely due to the fact that the purchasing power of their money decreases overtime. If we continue this cycle, this means that the combination of higher prices and increase in spending ultimately results in a higher revenue. Let's take the example of toothpaste, it's a necessity, so if firms sell toothpaste with an added 10% cost, there will not be a decrease in demand and instead firms will be able to increase their net annual revenue, and thus the cycle continues. It is clear that inflation can progress economic growth as it raises aggregate demand through an influx of consumer spending and investment and that in return triggers more production - thus inciting a spiral of economic growth. However, inflation does not only improve the economic life of firms as it can also reduce debt as it reduces the real value of the debt. For example, let's say an individual has racked up £10,000 debt, as the years go on the debt’s worth decreases and thus it is a smarter economic decision to pay back debt in times of higher inflation. This thus means that inflation may actually favour the most vulnerable members of british society as the pressure on repaying their debt is alleviated to a certain extent. Overall, there are a few benefits to inflation which can benefit both the richest and poorest members of British society. Moreover, the fact that both major highstreet firms may increase their net revenue whilst simultaneously allowing for the bottom 10% to also benefit from debt reducing factors allows for a healthy balance of economic growth. However it is important to note that this is only applicable in instances of regularly increasing, anticipated inflation, instances such as Hyperinflation or disinflation do not allow for a correct signalling of resources and also does not allow for either consumers or firms to financially plan as well as simply keep up with the change in price levels.
In conclusion, inflation bears many costs and many benefits, and are all immensely present in the UK economy. Whilst inflation does bear many costs and inconvenience the daily lives of british civilians, it also allows for economic growth within a society and allows both extremities to maximise their potential utility. This is why the UK aims to keep inflation rate under 2%, in order to benefit from increasing aggregate demand whilst also aiming to avoid the obvious costs which may further harm a country such as political unrest, shoe leather costs and menu costs.
Written By Aurore Lebrun
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