Effects of Inflation: Change in Purchasing Power Parity
Table of Contents
- jaro education
- 13, April 2024
- 2:00 pm
The general upward trend in the pricing of goods and services over time is known as inflation. Between 1914 and 2023, the average annual inflation rate worldwide was about 4.1%. Therefore, mild inflation has been the expected economic situation and a reality for over a century. Because of this, it’s critical to distinguish between the effects of inflation at all rates and those exclusive to times when inflation is abnormally high. The above facts make it critical to differentiate between the implicit effects of inflation at any given point; those impacts only get exposed when inflation is abnormally high.
Purchasing power parity (PPP) signifies an accepted macroeconomic evaluation parameter that compares economic productivity and living standards among different nations. The essence of PPP is an economic fundamental that collates countries’ currencies in general with applying a “basket of goods”.
Therefore, purchasing power parity conveys the exchange rate at which one country’s currency will get converted into another to buy an identical amount of a vast range of products. As per this concept, two currencies of two nations are in equilibrium (at par) when respective authorities price a basket of goods at the same rate in both countries with due consideration of exchange rates.
There are many impacts of inflation on the economy. Inflation decreases the purchasing power of a country’s currency. The decline in purchasing power leads to an increase in the prices of commodities and services. To calculate PP using conventional economic criteria, you can compare the price of a commodity or service against an established price index like CPI (Consumer Price Index).
What Are the Inherent Effects of Inflation?
Inflation implies a rise in prices of commodities and services over a specific period. When there is a price increase, consumers invariably lose purchasing power. It signifies the power of a single currency unit losing its elasticity, which it did before. A minor degree of inflation will not be a dominating factor, but it can be when there is a steep rise in price. Still, you might be curious to know what factors govern inflation.
The most common effects of inflation are as follows:
- Consequences of inflation may lead to a marked imbalance in demand and supply. Inflation escalates when the general demand for commodities and services increases when supplies go down at intended price levels.
- Supply barriers or shocks may drive inflation. You might have heard that global crude oil prices have soared due to Russia’s occupation of Ukraine’s territories. Consequently, Russia adopted stern measures by squeezing the market considering the sanctions clamped by the international community. This significant drop in oil supply brought about an exceptional price hike.
- Besides, consumers are apprehensive when they expect inflation. When employees working in the public and private sectors anticipate a price escalation, they demand higher remuneration to protect against potential price jumps. Most manufacturing industries respond to this changing scenario by raising the cost of production, which has a decisive impact of inflation on the economy.
The effects of inflation can be a virtue or a vice. It all depends on how economic policymakers work on them. From one point of view, central banks and government authorities plan for controllable price increases by establishing inflation