What is Inflation: Types & Causes Explained
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What is Inflation: Types & Causes Explained
Wealth Management
September 30, 2022

What is Inflation: Types & Causes Explained

You’ve probably heard more and more about inflation, yet, you may not be entirely sure what inflation is and what causes it. In this post, we’re cutting straight to the chase and explaining everything you need to know about inflation - its types and causes of inflation.

What is inflation?

Inflation is when there’s an increase in prices over time. It’s an economic indicator that shows the rising cost of goods and services. The rise in prices is displayed as a percentage, showing that a specific currency buys less than it did previously. 

 

For example, consumer prices in the United States increased 9.1 percent over the past 12 months. Essentially, the increased cost of commodities reduces buying power over time. On the other hand, deflation means the prices of goods and services decrease and purchasing power increases.

Three months ago you bought a loaf of bread for €1.00, but now, the same thing costs you €1.50 - that’s inflation!

Key takeaways:

  • Inflation is when the cost of goods and services increases - this can be translated as a decline in purchasing power over time
  • Inflation can be divided into three types: demand-pull inflation, cost-push inflation, and built-in inflation
  • Certain individuals who have invested in assets like property, crypto, or stocked commodities, may respond positively to some inflation as it increases the value of their asset.

What does inflation mean?

Inflation shows how much the average price has changed for goods and services. Essentially, with inflation, your purchasing power decreases, meaning you buy less but pay more.  

But what does inflation mean for you? While it can be concerning for the general public, it doesn’t affect everyone negatively. While consumers lose their purchasing power, some investors may sometimes benefit from inflation. 

 As an investor, you, of course, need to do all of the necessary due diligence while chalking out your investment portfolio, but you can also make automated trading a part of it. For example, you can use the BOTS app for staking, shorting, and HODLing - this helps diversify your portfolio and in the long term, this will potentially help you gain some profit during periods of inflation.

What causes inflation?

Inflation doesn’t just occur out of thin air. Usually, when there’s an increased supply of money, it’s the cause of inflation. A state’s money supply can be affected by the following: 

  • The printing and giving of money to citizens
  • Legally devaluing (reducing the value) of the state currency
  • Higher borrowings (debt) increase taxes and currency printing to repay debt 

All of the cases above reduce consumer buying power and drive inflation. These causes are categorized into three types of inflation: demand-pull inflation, built-in inflation, and cost-push inflation.

Types of inflation explained

While the supply of money is the root of inflation, there’s more than one type of inflation. By understanding the three types of inflation, you can see how it affects the state and consumers. Let’s dive into it.

Demand-pull inflation

This occurs when there’s an increase in the supply of money and credit, which encourages the demand for goods and services faster than the economy’s production can manufacture. This demand for goods and services results in a price increase. For example, if more people want to buy loaves of bread, but the bakery only has so many bakers, they’ll increase the price of bread due to the demand.

When consumers have more money to spend, this usually leads to increased spending, which leads to a gap in the supply and demand chain, resulting in higher prices. 

Built-in inflation 

This occurs when future inflation is expected. As a result, prices go up, and wages increase to balance the increased cost of living. However, higher wages increase production costs, which increases the prices of products and services. 

Cost-push inflation

This is a result of the increase in prices due to the increased cost of production. When there’s a negative economic shock to the supply chain, it can lead to increased costs for the product or service. For example, if you have a wooden furniture business, but the cost of lumber has increased, the cost of a wooden table will rise as a result.

How is inflation measured?

Inflation is measured by finding the difference between the initial Consumer Price Index (CPI) and the final CPI. The result is then multiplied by 100 to give the inflation rate. The inflation rate formula looks like this:

Rate of inflation = (Initial CPI - Final CPI / Initial CPI) x 100

You can calculate the inflation for any product using the formula above. To find out the inflation of a product, follow these steps: 

  1. Determine the price of the product at an earlier period
  2. Determine the current price of the product/service
  3. Using the inflation formula, calculate the rate of inflation

You can use this formula to calculate the inflation of any goods or services.

Should you invest during inflation?

Inflation shouldn’t stop you from entering the market and investing; however, it’s important to know what investments are safer than others. Naturally, you want to be able to pull through periods of inflation. If you’re wondering if it’s a good idea to invest during inflation, the answer is yes, but always align your portfolio with your financial goals.

During inflation, you can invest in stocks, real estate, gold, commodities, or cryptocurrency. While these assets are not guaranteed to protect you fully, they can help you pull through inflation if you invest smartly. We suggest diversifying your portfolio, spreading your investments out over various asset classes, and not putting all your eggs in one basket. You can enlist the help of our automated trading app, BOTS, to help you reach your financial goals or even to help you chalk out your investing journey. Curious? Check out how the BOTS app works!

 

Disclaimer: 

This blog is for educational purposes only. The information we offer does not constitute investment advice. Please always do your own research before investing. 

 Any views expressed in this blog and by BOTS do not constitute a recommendation that any particular cryptocurrency (or cryptocurrency token/asset/index), portfolio of cryptocurrencies, transaction, or investment strategy is suitable for any specific person.

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