Inflation is caused by macroeconomic factors such as demand, supply, and consumption, as well as interest rates, monetary policies, and GDP. Increases in demand and limited supply lead to price increases, while excess cash in the market and employee wage demands can also contribute. Deliberate price increases by manufacturers and retailers can also cause inflation.
Increases in the price level are also known as inflation. Such price increases in an economy are generally due to the effect of macroeconomic factors such as demand, supply, and consumption. All other macroeconomic factors that affect increases in the price level are somehow related to these three factors. Those other areas include the interest rate, monetary policies, and Gross Domestic Product (GDP).
Demand and supply cause increases in the price level due to the fact that the level of demand in an economy plays a role in determining the level of market activity. A constant and active market in which the level of supply is approximately equal to the level of demand is desirable, because the price of goods and services remains stable, barring any other extraneous factors. When the demand is more than the supply, the natural consequence is an increase in the price of goods and services. Such an increase may be due to a number of factors including hoarding of assets in anticipation of fear or scarcity, and the fact that scarce resources become more valuable as a result of unavailability.
Another factor that causes increases in the price level is the deliberate action of manufacturers, producers, and retailers of goods and services that may artificially increase the price of products to maximize profits or to offset an imbalance in cash inflows. This type of action contributes to inflationary effects in the economy by causing the prices of goods and services to rise to a higher than normal level. Sometimes companies may lower the price of goods after a while, or the new pricing regime may remain.
Too much or excess liquid cash in the market is a factor that results in increases in price levels as well. This is especially true when cash in the economy is more readily available than goods or services. This type of situation can occur in some economies where the government engages in indiscriminate printing of money in response to financial deficits. Money soon loses its value, resulting in a situation where a suitcase full of money will only buy a handful of goods when the opposite used to be true.
The activities of employees are indirectly related to increases in the price level, because during an inflation workers find that their wages no longer go as far as before. This can prompt employees and various unions to wave for wage increases so that money will catch up with increases in the price of goods and services. In some economies, this causes a further change in the price of goods and services as merchants further increase the prices of goods in response to the increase in wages.
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