What Causes Inflation?
In recent months, the cost of numerous things has increased. Inflation is a topic that is frequently discussed these days. If you want to find out the information and learn how inflation starts when a recession hits and what that means for a layman, continue reading this blog.
What is Inflation?
When prices rise significantly, and one can buy fewer products for the same amount of money as before, this is referred to as inflation. Anyone who consistently adds the same things to their shopping carts must have noticed recently that they cost significantly more than in prior years.
The cost of products and services has significantly increased due to rising inflation. As a result of the strong Swiss currency, the inflation rate in Switzerland is a manageable 3%, compared to up to 10% or greater in its neighbouring nations and the USA.
How Does Inflation Originate?
The current extreme inflation rates, which are fueling worries of a recession, have three key causes:
The cheap money policy after the great financial crisis
The years after the Great Financial Crisis of 2008 are crucial to the current price increase. To stabilise economic systems, central banks in the USA, Europe, and Switzerland at the time slashed interest rates as much as they could. So, they reduced the cost of borrowing money. Mortgages have become more affordable than ever, allowing many individuals to purchase or construct homes.
Additionally, getting credit and other types of capital for enterprises got simpler. This economic activity stimulation even went so far as to impose punitive, negative interest rates on people who preferred to keep their money in a bank account rather than use it for investments or expenditures. That was a historical first. The goal of central banks was accomplished since cheap money stimulated a flurry of orders for construction supplies, boosted consumer spending, and accelerated economic activity.
The money supply grew faster than the goods available to customers due to this cheap money policy.
Disrupted Supply Chains during the Pandemic
The COVID-19 epidemic in 2020 stopped manufacturing and broke up global supply lines. Manufacturers and service providers were prohibited from working during the ensuing lockdowns.
Many other nations adopted significant subsidies and tax breaks to compensate for their citizens' lost income and revenue in response to the crisis. The macroeconomic balance between supply and demand was upset by this, though, because demand remained constant while supply, or the total amount of goods and services produced by a national economy, decreased. This type of disequilibrium ultimately raises prices.
Energy crisis due to the war in Ukraine
During the COVID-19 pandemic, Russia attacked Ukraine and disrupted the flow of oil and natural gas to Europe. This rapidly led to significant increases in energy prices and spurred inflation.
Additionally, since then, the major European nations' desperate attempts to terminate their reliance on Russian energy have increased investment in acquiring alternative energy sources (decarbonization), which has also raised prices.
What Works Against Inflation?
The response to rising inflation rates is an increase in interest rates by central banks. They raise the cost of borrowing and hence lower the amount of money in circulation. This should moderate inflation since businesses and consumers will invest less and spend less when credit and loans are once more expensive, allowing the supply and demand imbalance to stabilise.
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