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Inflation affects both the economy of a country and its social conditions, as well as the political and moral lives of its inhabitants. However, the economic effects of Inflation are stated and described below:

* Price inflation has immense effect on the Time Value of Money (TVM). This acts as a principal component of the rates of interest, which forms the basis of all TVM calculations. The real or estimated changes occurring in the rates of inflation lead to changes in the rates of interest as well.

* Inflation exerts impact on the treasury of a nation as well. In United States of America, Treasury Inflation-protected Securities (TIPS) ensures safety to the American government, assuring the public that they will get back their money. However, the rates of interest charged by TIPS are less compared to the standard Treasury notes.

* The most immediate effect of inflation is the decrease in the purchasing power of dollar and its depreciation. Inflation influences the investments of a country. The Inflation-protected Securities (IPSs) may act as a guard against the loss in the purchasing power of the fixed-income investments (like fixed allowances and bonds), which may occur during inflation.

* Inflation changes the allocation of income. This exerts maximum effect on the lenders than the borrowers at the time of persisting inflation, because the loans sanctioned previously are paid back later in the form of inflated dollars.

* Inflation leads to a handful of the consumers in making extensive speculation, to derive advantage of the high price levels. Since some of the purchases are high-risk investments, they result in diversion of the expenditures from regular channels, giving birth to a few structural unemployments.

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Re: Effects of Inflation

# Money is a storage of value. If you were to sell a horse for 10 gold coins, you should be able to go back and change that money in for another horse tomorrow or the next week or the next month. When money holds its value, you feel safe saving it, and instead of selling a horse, you might be in situation in which you sell real estate or any other asset.
# Inflation weakens the function of money as a storage of value, because each unit of money is worth less with the passing of time.
# Money is a standard unit of account. If you are interested in buying a sheep, you will probably not want to take the sheep as a loan with the commitment of paying off two sheep the next year. Most likely you will get a loan and pay it in monetary terms. In other words, get a loan of one gold coin to buy your sheep, with the commitment of paying two gold coins next year.
# The progressive loss of the value of money during a period of inflation makes the borrowers to be less willing to use the money as standard differed payments. Suppose that a friend asks you to loan him $100, and commits to paying you $120 within a year. This seems like a good deal – after all this is an interest weigh of twenty percent. But if the prices are increasing rapidly and the value ofmoney is decreasing, how much will you be able to buy with those $120?
# Inflation makes people be less willing to loan out money. They fear that once the loans are paid off, the money they receive will not have the same buying value then the money loaned. This uncertainty can cause a devastating effect over the development of new businesses, that to finance their businesses are based a good amount on loans.
# Money is a means of exchange. Money is a means of exchange between buyers and sellers because it can be directly changed for anything else, which makes buying and selling a lot easier. In an economy of trade, an apple producer that wants to buy chocolate might see himself first forced to buy oranges and then exchange the oranges for the chocolate, because it is possible that the chocolate salesperson only wants oranges. Money however, eliminates this type of problem.
# But if inflation is high enough, money is no longer an effective means of exchange. During hyperinflations, frequently the economies go back to trading and this way, the buyers and sellers do not have to worry for the loss of the value of money.

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Posted : 10/07/2010 11:54 am