In addition to important global events such as the intensifying war between Russia and Ukraine, and the ever-looming threat presented by global warming, a news story that has consistently generated a significant amount of media attention throughout the year is inflation.
As early as February 2022, economic analysts and world leaders alike were already predicting that inflationary pressures would significantly reduce living standards for billions of individuals across the globe.
For the most part, these predictions proved true. As of November 2022, the head of the International Monetary Fund announced that global inflation levels were beginning to peak at around 9.5%.
In terms of what this meant for ordinary people, although the effects are felt differently depending on individual economic status, in general, inflationary environments reduce the purchasing power of consumers. This means that real income is significantly eroded relative to the cost of living, with the cost of all of life’s essentials increasing despite no similar increases in income.
For this reason, 2022 was defined by spiraling energy costs, increased rent prices and mortgage repayments, as well as higher prices for basic goods and foods. Inflation also hit businesses hard, with higher operating costs and the downsizing of workforces becoming the norm.
While it is obvious that inflation has plenty of negative consequences for individuals, businesses and governments, it is less clear whether it actually benefits anyone. And similarly, whether there is a desirable level of inflation you would want or need in an economy.
What causes inflation?
Before we discuss whether anyone actually benefits from inflation, however, we should first be clear about what causes inflation to begin with.
Taken at its most basic, inflation is a measure used by economists to measure the rate of the rising prices of goods and services in an economy. It occurs when these average prices rise due to increases in production costs, raw materials or wages.
However, while this basic definition seems quite simple, the range of factors that can influence the rate of inflation present at any moment is actually quite complex! Here are some of the main contributing factors:
- Demand-pull inflation: This occurs when there are increases in demand for goods and services, but no supply to match it. This forces the cost of goods and services upwards.
- Cost-push inflation: This occurs when pressures in the supply chain push the cost of production upwards, such as increased energy prices or wages.
- Devaluation: This inflationary pressure occurs when the value of a currency loses value relative to other currencies, which pushes up the cost of imports.
- Monetary and fiscal policy: Both monetary and fiscal policy can impact inflation rates, particularly where interest rate changes push cost of borrowing up and the supply of money down.
Does anyone benefit from inflation?
Although much of the focus in the news this year has been on how inflation and increases in the cost of living — particularly when combined with stagnating wages — are hitting individuals around the world, there has been noticeably less focus on whether there are any potential benefits to inflation.
One group who arguably benefits from inflation and, in particular, government responses to it, are borrowers with existing fixed-interest loans. This is because they have already secured a loan at a fixed interest rate and won’t be impacted by the interest rates increases central banks use to combat inflation.
Another sector impacted positively by inflation, is the energy industry. As we have seen over the course of the year, oil and gas producers are making record profits. Various inflationary forces have converged to push the cost of energy up, which has helped them to rake in massive profits.
Electric vehicle manufacturers have also reported steady growth despite the inflationary pressures. This is because rising energy prices have pushed people towards electric vehicles.
Similar pressures have also been at play in the food industry. Despite the cost of basic groceries going up significantly — which has hit consumers hard — manufacturers have reaped financial rewards. A global reduction in output and corresponding price increases have helped to boost profits, even taking into account increased production costs.
Perhaps one of the most interesting consequences of inflation is that it has had a surprising impact on the luxury goods market.
While the purchasing power of consumers goes down relative to the cost of goods, these price increases do not occur evenly across all types of goods. In fact, inflationary pressures tend to be the most noticeable with basic goods and foodstuffs. In contrast, luxury goods tend to be insulated from inflation, which has fueled a surge in demand for luxury goods such as designer watches and handbags.