Inflation: How it Impacts The Overall Household Budget And Steps to Minimize The Impact
The Bureau of Labor Statistics report shows a 0.8% inflation increase by February 2022. Inflation increase attributes to the rise in commodities, gasoline, and shelter prices. The highest percentage affects shelter.
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This article will discuss types of inflation and their impacts on the overall household budget. We will also look at the causes and the steps to minimize inflation impact. So, What is inflation, and how does it affect the economy? For this and more questions, read on to learn more.
What is inflation?
Inflation refers to the decrease in money’s purchasing power, hence an increase in the price of goods and services. It mainly affects the consumer as one has to reduce their budget in their income. It makes your money lose value with time.
When inflation increases or goes high, it affects even its economy. Even if you cut down your household budget, the effects are still there. The results depend on the type of inflation, as there are different types, as discussed below.
At this point, the recommended monetary authority – the central bank, takes charge of controlling the flow of credit and money to mitigate inflation within limits and smooth the running of a country’s economy.
In economics, it’s also known as monetarism – a theory explaining the relation between a country’s economy’s money supply and inflation.
That said, Let’s dive into types of inflation.
What are the types of inflation?
The three main types of inflation are Cost-Push inflation, Demand-Pull inflation, and Built-In inflation.
Demand-Pull Inflation: There is a high demand for goods or services than capacity production, thus resulting in price appreciation. That is the gap between demand and supply.
Cost-Push Inflation: When the cost of production rise, thus increasing the prices of the products – labor and raw materials – and the inputs.
Built-In Inflation: When there’s an increase in prices, it results in high wages of the cost of living. Thus, a rise in the cost of production affects the products’ price. The price of the products impacts future expectations and results in built-in inflation.
Other types of inflation include:
Open inflation: Occurs when a price increases continuously and can be visible.
Hyperinflation: Occurs when there is a rapid increase in the price level.
Repressed inflation: Occurs when there is more than in demand in the economy.
True inflation occurs when there is a higher economic input than the output.
Semi-Inflation: It occurs when there is a steady growth in some sectors of the economy.
What are the three main causes of inflation?
The three main causes of inflation are:
Demand-pull inflation: There are not enough services or products to align with the demand, increasing prices
Example: Consumers want to buy tomatoes in the market, but there is not enough supply from the farmer, resulting in a hike in prices
Cost-push inflation: There’s a hike in the cost of products and services, making businesses hike their product prices
Example: The prices of pesticides to prevent tomatoes from pests are increasing, which causes the price of tomatoes to rise
Built-in inflation occurs when workers demand high wages to align with the high cost of living. Thus, causing companies to raise their product prices for them to align with the high cost of wages.
Example: When the prices of tomatoes increase, the consumer demand pay rises to afford to buy tomatoes
How Inflation Impacts The overall Household Budget
The Consumer Price Index (CPI) is the main common index and indicator of inflation. The U.S. Bureau of Labor Statistics uses the CPI to determine the factors that impact living costs over time.
The graph below shows changes in the Consumer Price Index
Overall excluding food and energy
Source: Bureau of Labor Statistics
Since 1982, the Consumer Price Index for all Urban Consumers has increased by up to 7.9% for the last 12 months, compared to 7.5% in January 2022. It’s the largest increase in the past 40 years.
There was a 0.8% rise in the Consumer Price Index by February 2022, compared to November 2021, with an increase of 0.6% in January 2022, which equals a 10% annual compound rate.
The price rise as of February 2022 was as follows:
- Gasoline 6.6%
- Shelter 0.5%
- Food 1.0%
- Fuel oil 7.7%
- Energy 6.6%
- Utility services 1.5%
- Transportation 1.4%
Gasoline and Shelter
Unlike electricity, it decreases by 1.1%, 0.4% for energy services, and 0.2% for trucks and used cars. It indicates a rise of 25.6% in the energy index and 7.9% in the food index between February and January. The shelter has the highest increase of 40% more in February than the food and energy index, a 4.7% increase for the last 12 months since May 1991.
Rising price of gas. (All items – Gasoline)
Source: Bureau of Labor Statistics
Inflation impacts on food index for the past 12 months was 7.9% increase overall. That’s food at home, a rise of 8.6%, and a 6.8% rise for away from home. It indicates the highest growth between December 1981 and April 1981.
In the grocery, the increase indicates as follows:
- Fruits 3.7%
- Vegetables 1.3%
- Dairy products 1.9%
- Meat, fish, poultry, and eggs 1.2%
- Cereals and bakery 1.1%
- Others 0.8%
Inflation in the energy index shows an increase of up to 3.5% by February. The rise indicates as follows:
- Gasoline 6.6% February and January 0.8% decline
- Natural gas 1.5% February, and January a decline of 0.5%
- Electricity 4.2% in January, and February 1.1% decrease
The overall rise in the energy index in the past 12 months indicates an increase of 25.6%.
- 38.0% gasoline
- 37.9% energy commodities
- 43.6% fuel oil
- 23.8% utility gas service
- 12.3% energy services
- 9.0% electricity.
Inflation in transportation was most effects by the hike in prices of the used and new vehicles. In February, the price rose by 0.3% up to 12.4% for the 12 months. Unlike trucks and used cars, 0.2% declined in February and a 41.2% rise for the 12 months.
- 5.2% rise for Airline fares in February, making it 12.4 % more than a previous year
Overall, transportation rise for the past 12 months shows 6.6% after 1.0% and 1.4% in January and February, respectively.
Who benefits from inflation?
Inflation benefits both borrowers and lenders. When inflation occurs, borrowers can pay back their debts, money worth less than the original amount. On the other hand, when there’s inflation and prices hike, there will be an increase in the credit demand, thus raising interest rates whereby lenders will benefit.
What are the effects of inflation?
The effects of inflation may include:
- It may strengthen or weaken the value of money
- The inflation period may prolong
- Low cost of borrowing
- Increased growth
What are the steps to mitigate inflation?
The government mainly controls inflation. There are five main policies to use to restrain inflation. These include:
- Monetary policy: It is a policy where the government increase interest rates making borrowing expensive. It leads to low growth in consumer usage. Increasing interest rates encourages a higher exchange rate and assists in minimizing inflation.
- Fiscal policy: It is the process whereby the government may hike tax rates. It assists in reducing the economy’s demand, thus minimizing inflation pressure.
- Supply-side policies: It enables flexible markets between countries to allow money flow.
- Wage controls: Limiting growth wage may also reduce inflation. When the wages are low, there’s a reduced cost-push hence mitigating inflation.
- Control of money supply: The government may also take action by controlling the supply of money.
What is the inflation rate formula?
The inflation rate formula is the difference between initial and final CPI divided by initial CPI. Then multiply the result by 100 gives the inflation rate.
Rate of Inflation = (Initial CPI – Final CPI/ Initial CPI)*100
CPI= Consumer Price Index
Inflation Frequently Asked Questions
Is inflation considered good for the economy of the country?
Inflation is good for the country’s economy when it boosts consumer demand. If the economy is not functioning, there’s uncommon labor. So, inflation benefits debtors to repay their debt less than the original value.
Does inflation cause depression?
Inflation does not cause depression. The main factors that cause recessions include a decline in investment, higher interest rates, fall in bank confidence or lending. In most cases, cost-push inflation may lead to a recession when inflation is more than the normal wage growth.
What is the cause of inflation in 2022?
The cause of inflation in 2022 is due to unexpected demands for certain goods caused by the COVID-19 Pandemic. It was a result of the 2021 global supply chain crisis
Why is inflation so high right now?
The inflation is so high right now because as the U.S recovers from the COVID-19 Pandemic, the consumer spends more. As the supply chain problems go on, the value of inventory rises. Also, there’s an increase in wages leading firms to raise the costs of products for consumers
The bottom Line
Inflation is a general rise in the price level in an economy that causes a hike in the cost of living. The three main types of inflation are Cost-Push inflation, Demand-Pull inflation, and Built-In inflation. There are positive and negative impacts of inflation, as discussed above. To control inflation, the government or central bank may use monetary, fiscal, supply-side policy, wage control, and control of money supply. We hope this article was helpful.