Understanding inflation, and why it matters

Posted By : Rina Latuperissa
8 Min Read

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The inflation that most Americans are now experiencing is strong, and will have far more consequences than just raising prices at the supermarket and the gas station.

But if you are a left-leaning Keynesian economist, you say, “So what; gasoline sellers and supermarket owners are better off, inflation does no net harm, it just moves wealth from one player to another.” The Keynesians are wrong, net harm is done by inflation, not just in the US but across the world.

First, let us define inflation. It is a case of too much money chasing too few goods. Put another way, the idea is that the general price level is proportional to the quantity of money: More money, absent extra production, means higher prices for the constant quantity of things to buy, and vice versa.

The simple definition needs some unpacking. At the time the first clear written statement of what is now known as the quantity theory of money and prices was enunciated, by French intellectual Jean Bodin (1530-1596), the definition of money was fairly simple: coins, currency, and bank deposits.

In order to understand how today’s quantity theory works, we expand our definition of money, the engine of inflation, making it include not just traditional cash, but all financial, governmental or privately produced “paper” claims, documents, legal and traditional social devices that allow the holder thereof to lay claim, acquire or control “real” goods and services.

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