If you’ve seen a television news show or heard a politician speak, you might have heard the word “inflation.” Reporters and politicians always seem concerned about how quickly inflation changes. They worry about inflation and deflation. What is inflation? How does it affect your life?
Rising Prices, Tighter Budgets
Inflation is a number that tells us how much we can purchase for a dollar. If you talk to your grandparents, they might tell stories about how they bought ice cream for 25 cents a cone, or how a dollar used to buy a really nice toy. Over time, prices tend to rise. So, for instance, something that cost a dollar in 1999 might cost $1.40 in 2013. The rate of inflation tells us how fast the value of a dollar is changing. The government uses a number called the Consumer Price Index (CPI) to stand for the value of a dollar. Economists find the CPI by creating an algebraic expression based on what people spend money on and how much those things cost.
The government finds the CPI by looking at how much people in urban areas spend on food, transportation, housing, and other items. They use this number to find the total value for inflation. Some people argue that the CPI isn’t accurate. For instance, if the price of food goes up, people may stop spending on new televisions. If someone lives in a rural area, they might spend more of their income on gas and less on food than someone living in a city.
Banks and investors use the rate of inflation to determine interest rates. If inflation suddenly increases, many people find it harder to borrow money. Their wages may not rise as quickly as the cost of goods. They’ll spend their savings more quickly in an emergency, because everything will cost more. Most stable countries have stable rates of inflation, which means that people can plan for increasing costs. Individuals can budget from year to year, and employers can prepare to give cost-of-living raises.
See for yourself: http://www.youtube.com/watch?v=hqZZLchyz6Y
Check out the first link to experiment with an inflation calculator, and then watch the video below for a PBS report from 2010 on deflation in Japan.