Why Inflation is “A Bad Thing”

Abstract

Inflation causes trouble for economic systems in four interrelated ways.¹ First, inflation erodes the money unit’s purchasing power— the so-called “inflation tax.” Anticipation of further erosion reduces people’s desire to hold money and other assets denominated in the money unit. This may have certain favorable short-term consequences, but on balance the longer-term consequences are assuredly negative. Second, the inflation rate over any time interval frequently surprises people, so that individuals and enterprises end up with different amounts of purchasing power than they originally planned. The surprise may be agreeable or disagreeable: for example, if prices rise more than originally expected, “economic entities” (i.e., households and firms) that owe money are agreeably surprised, while those owed money are disagreeably surprised.